How the Due-On-Sale Clause Works
and how to make it work for you
The governing law for the due-on-sale clause is the the Garn St. Germain Act. Under the act, due-on-sale clauses are legal with some exceptions as to when a due on sale clause can be triggered. The list of exceptions is as follows:
✓ The creation of a lien or other encumbrance subordinate to the lender’s security instrument which does not relate to a transfer of rights of occupancy in the property;
✓ ]The creation of a purchase money security interest for household appliances;
✓ A transfer by devise, descent, or operation of law on the death of a joint tenant or tenant by the entirety;
✓ The granting of a leasehold interest of three years or less not containing an option to purchase;
✓ A transfer to a relative resulting from the death of a borrower;
✓ A transfer where the spouse or children of the borrower become an owner of the property;
✓ A transfer resulting from a decree of a dissolution of marriage, legal separation agreement, or from an incidental property settlement agreement, by which the spouse of the borrower becomes an owner of the property;
✓ A transfer into an inter vivos trust in which the borrower is and remains a beneficiary and which does not relate to a transfer of rights of occupancy in the property; or
✓ Any other transfer or disposition described in regulations prescribed by the Federal Home Loan Bank Board.
There is no exception for the transfer of a mortgage into an LLC. A person seeking to transfer a mortgaged property into an LLC can request permission to do so from the bank. Banks have little reason to not allow the transfer since interest rates have not increased much, but make sure to get the banks permission in writing. There is no statue of limitation for enforcement of a due-on-sale clause after the transfer of a mortgaged property into an LLC, so a bank can wait till interest rates have gone up several years down the road and then enforce the clause.
Note that the all-too-popular land trust schemes run afoul of this law. Hundreds of thousands of properties have been put into land trusts where an LLC is the beneficiary. According to exception 8 above, the trust must remain revocable. If and when the land trust owner sells any shares of the land trust to others, the due-on-sale clause is triggered and the lender has the right to call the loan.
Read the report covering due-on-sale clauses and calling the note due in “Enforceability of Mortgage Due-On-Sale Clause”Download Report Here
Since the Act was passed, interest rates have trended to stay the same or decreased. As long as interest rates have decreased there is no incentive for banks to enforce due-on-sale clauses.
It is possible to make a weak legal argument that Garn St. Germain Act does allow for an exception for a transfer of a mortgage property into an LLC. The purpose for the exceptions is to provide protections for the consumer where the enforcement of the due-on-sale clause would be inequitable. Since the individual who received the mortgage and note is still liable to the bank for the mortgage and note even if it is transferred into that individual’s LLC, it could be argued that the bank is not harmed in any way and that the enforcement of the clause would be inequitable.
However, the only case that even mentions a due-on-sale clause with relation to a transfer into a LLC is Baldwin v Wells Fargo Bank in the United States District Court, Oregon. The bank tried to enforce the due on sale clause in order to try and cover for the way they treated the person who had transferred the property into an LLC. The court ruled that the due-on-sale clause was triggered and explained that their reasoning was because the other party could not produce any legal argument as to why the clause should not be applied. So don’t rely on it.