Due-on-sale clauses are a common element of most mortgages and other loans. The provision is a protection for lenders specifying that if property rights of an encumbered asset are transferred, the lender has the right to demand immediate payment for any amounts due from the debtor. A transfer could be any change in the debtor’s rights to the property – like selling a home or quitclaiming a deed. Logically, upon the sale of a home, a lender would want to recover the balance of the loan owed by the debtor-seller. The original note may say that the debtor has 100 more months to pay, but with the due-on-sale clause, payment is due right away due to the transfer. Fortunately though, not all transfers are treated as “transfers” that trigger the clause.
When there is a dispute as to whether the due-on-sale clause has been activated, challengers look to two different authorities for guidance: the Garn-St. Germain Act and the Office of the Comptroller of the Currency (OCC). Debtors look to the former; lenders look to the latter. Frustratingly, the two provisions do not align entirely.
The OCC
The OCC is the administrative authority regulating certain banking practices. In regards to the permissions and limitations of implementing due-on-sale clauses (now codified at 12 C.F.R. § 191.6), lenders may not enforce the clause on a variety of particular transfers. With certain caveats to each type, lenders are prohibited from executing such clauses on transfers of property into inter vivos trusts where the debtor remains a beneficiary and occupant of the property; on subordinate liens on the property; purchase-money security interests in household appliances; transfers initiated by a death; and certain leasehold interests, transfers due to divorce, or adding children or a spouse as owners.
The Garn-St. Germain Act
This Act also protects debtors from use of the due-on-sale clauses in their real property mortgages when certain types of transfers are executed. First, in order for the Act to potentially apply, the property mortgaged must be residential real property and must contain fewer than five dwelling units. If it is, similarly to OCC’s restrictions, the due-on-sale clause cannot be applied to the following transfers, again, with caveats to each type: subordinate liens or encumbrances; purchase-money security interest in household appliances; transfers initiated by death; certain leasehold interests; transfers caused by divorce; adding children or spouses as owners; transfers into inter vivos trusts where the debtor is and remains a beneficiary and the transfer does not relate to a transfer of rights of occupancy in the property; and, finally, any other transfers excluded by OCC regulations.
Let’s take a deeper dive into transferring real property into a trust. Under the Garn-St. Germain Act, five elements must be satisfied to prohibit a mortgage company from invoking a due on-sale clause in such an instance:
(i) residential real property;
(ii) less than five dwelling units;
(iii) transfer into an inter vivos trust;
(iv) the borrower is a beneficiary of the trust; and
(v) does not relate to a transfer of rights of occupancy in the property.
Elements (i) and (ii) are easy enough. Residential real property means that individuals live in the real property; it is not a business property. And the real property must consist of fewer than five units. For element (iii), the transfer must be into an inter vivos trust. Inter vivos is Latin and means “between the living.” An inter vivos trust is one that is created during the grantor’s lifetime.
Elements (iv) and (v) get a little trickier. Let’s examine the former first. The borrower must be a beneficiary of the trust. In a traditional RLT, this is easily met – the Grantor is the beneficiary of the RLT; the assets are held by the Trustee for the benefit of the Grantor. But what about in a MAPT? The Grantor is never the beneficiary of trust principal. And, the MAPT is often designed where the Grantor isn’t the beneficiary of trust income, either. How can element (iv) be satisfied in this situation? By giving the Grantor the right to occupy the property, which is a beneficial interest. (See Daley v. Secretary of the Executive Office of Health and Human Services, 477 Mass. 188 (2017)) If the Grantor is not the beneficiary of principal or income, nor has the right to occupy the property, element (iv) is likely not met.
Now, let’s turn our attention to element (v): "does not relate to a transfer of rights of occupancy in the property.” This has been interpreted differently between the Federal Home Loan Bank Board and the courts. The former insists the borrower must be an actual occupant of the property. The court in Baldin v. Wells Fargo Bank, N.A. disagreed and said the plain meaning of the statute dictates otherwise. The court said that the Grantor doesn’t need to be an occupant of the property, but the element could be satisfied if a transfer of the right of occupancy by the Grantor did not occur. Because banks may lend themselves to banking regulations instead of case law, there is a sample letter in Elder Docx to send to a lending institution should they erroneously call a note due, the Letter to Lender Re: Garn-St. Germain.
Advocating for clients often extends after the documents are drafted and signed, and after the trust has been funded. Executing a new deed may not be the end of the conversation regarding the transfer of real property. If a mortgage company tries to inaccurately call a note due, Elder Docx will arm you with the necessary tools to win the battle.
