Do I Need Bank or Lender Permission to Transfer Mortgaged Real Estate by Deed?

There are several situations where you may need to change title to real estate. You may need to:

• Sign a quitclaim deed to remove you or your ex-spouse from title to the property following a divorce.
• Add a new owner, such as a new spouse, to the deed as a co-owner.
• Remove a deceased owner from title to the property so that the correct ownership is reflected in the land and property tax records.
• Avoid probate by creating an estate planning deed like a California Transfer-on-Death Deed, Texas Lady Bird Deed, or Florida Lady Bird Deed.
• Transfer property to a living trust for estate planning purposes.
• Transfer property to a limited liability company or other business entity for business purposes.

In each of these situations, you will need a deed to change the title to the property. But what if the property is already subject to a mortgage? Do you need permission from your bank or other lender in order to transfer the property? The answer depends on the type of transfer.

Overview of Due-on-Sale Clauses

A due-on-sale clause is a provision in a mortgage document that requires the full balance of the loan to be paid in full if the property is transferred to anyone else. Although due-on-sale clauses were designed to apply when the property is sold to an independent third party, they apply to any transfer of real estate to a new owner. Even if the new owner is a trust or business that you own, the due-on-sale clause could be triggered.

Due-on-sale clauses are common. You will find them in almost all mortgages for residential real estate in the United States. It is always up to the lender to decide whether to enforce a due-on-sale clause. If your lender decides to enforce the due-on-sale clause (a process known as calling the loan), the lender can force you to repay the loan in full or risk losing the property in foreclosure. But this is a drastic measure that is rarely used. As long as the mortgage is paid, most banks will not complain or seek to enforce the due-on-sale clause. And if the mortgage is not paid, the bank will foreclose regardless of the due-on-sale clause.

Because most lenders do not actively seek to enforce due-on-sale clauses when the property has not been actually sold, many homeowners do not worry about getting lender permission when they deed the property to their trust or business or add or remove a family member. As long as it is not concealed, transferring the property without lender permission is not illegal or immoral. But it creates a technical possibility that the lender could enforce the due-on-sale clause. There could be good business reasons to do so. If, for example, the loan is locked in at a 3 percent interest rate and market rates are currently 7 percent, an aggressive lender may want to call the loan so that it can re-lend the money at a higher interest rate. Unless an exception applies (see below), a transfer creates at least a remote possibility that the lender could call the loan.

The Garn-St. Germain Depository Institutions Regulations Act

Congress passed the Garn-St. Germain Depository Institutions Act of 1982 to allow lenders to enforce due-on-sale clauses. Before Garn-St. Germain, some courts held that due-on-sale clauses were unenforceable unless the lender could also show that the transfer impaired the lender’s security in the property. Garn-St. Germain clarifies that due-on-sale clauses are enforceable even with no showing that security was impaired.

Although Garn-St. Germain’s purpose was to enforce due-on-sale clauses, it also made several important exceptions. These exceptions create situations where the lender cannot enforce a due-on-sale clause. Real estate attorneys and other real estate professionals rely on these exceptions to transfer mortgaged property without getting lender permission. The following are all situations where the lender cannot call a loan based on a due-on-sale clause:

• No Due-on-Sale Clause – There is no general right to call loans absent an authorizing provision in the loan documents. If the mortgage does not have a due-on-sale clause, the lender cannot call the loan.
• Junior Mortgages – The creation of a second mortgage is not a transfer that triggers a due-on-sale clause. Garn-St. Germain has an exception for “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.”
• Transfer to Surviving Joint Tenant – Garn-St. Germain exempts “a transfer by devise, descent, or operation of law on the death of a joint tenant or tenant by the entirety.” In other words, the lender cannot call the loan if your property passes to a surviving joint owner by right of survivorship.
• Transfer by Inheritance – Garn-St. Germain exempts “a transfer to a relative resulting from the death of a borrower.” If a relative inherits property at your death, the lender cannot use the due-on-sale clause to call the loan.
• Transfer to Spouse or Child – Under Garn-St. Germain, a lender cannot enforce a due-on-sale clause for “a transfer where the spouse or children of the borrower become an owner of the property.” This protects transfers to your spouse or children.
• Transfer on Divorce – If you transfer the property as part of a divorce, the lender cannot call the loan. Garn-St. Germain protects “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.”
• Transfer to Living Trust – Garn-St. Germain protects transfers to living trusts for estate planning purposes, as long as the borrower is a beneficiary of the trust with ongoing right to occupy the property.

These exceptions protect homeowners that transfer property for estate planning or other personal reasons. Note, however, that transfers to business entities are not included in this list. A transfer to an LLC or other form of business could still trigger a due-on-sale clause, even if you continue to own the property indirectly through our ownership of 100 percent of the business after the transfer.

If Garn-St. Germain does not protect the transfer, the decision of whether to request lender permission depends on your risk tolerance. Lenders have no incentive to approve transfers and often will simply not respond when asked for permission. But most lenders do not actively patrol the land records to look for transfers that might violate a due-on-sale clause. For these reasons, many property owners feel comfortable making the transfer without obtaining lender permission. Although there is a risk that the loan could be called, these owners feel that the risk is too remote to worry about. More conservative owners will be reluctant to make any transfer that is not authorized by Garn-St. Germain without prior lender approval.