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By: Nick Johnson
To truly understand the Due-on-Sale clause you have to know it’s origin and reasoning. Also understanding court rulings in the matter brings clarity to the Clause and its use from and by lending institutions that have and currently still lend to Americans wishing to own a piece of the American dream.
Previous to 1933 home mortgage loans were not desirable to say the least. High interest rates and short term loans with large down payments and no mortgage insurance. This kept the borrowers to constantly re-finance their loan for the newer increasing interest rates or come up with the remaining cost of the property. Obviously this shaky system went on and was unable to withhold during the 1929 depression, so something needed to be done. Ring a bell?
The Home Owners Loan act of 1933 changed the prevailing home mortgage system by allowing lower interest rates and providing insurance for it’s loans through FHA(Federal Housing Authority) and Federal Savings and Loan Insurance Corporation(FSLC) and much longer repayment terms of up to 25y-30rs.
Included in the Home Owners Loan Act of 1933 section 5 were the regulations regarding the Due-on-Sale clause in lenders loan policy. The policy was there to force the new borrower to obtain newer and higher financing rates especially now that they were required to significantly lower rates and terms from before 1933.
Fast forward through the 1950’s, 1960’s. America was rapidly growing with access to funds and loans readily available at very attractive rates. During the 1970’s Americans seen an increase in interests rates and mortgages were again becoming very expensive. April 1971 interest rates were 7.31% and continued to rapidly increase to a peak in October 1981 of 18.45%. As you can see with rates skyrocketing creative ways of purchasing homes were more and more in demand for investors and even regular home buyers which leads to the next chapter in the evolution of the Due-on-Sale clause.
In July 1973, Birdie, Dorothy, and Fred Mans purchased a property in Riverside California for the amount of $19,100 financed with Bank of America with a 30yr fixed rate of 8% (the going rate that month was 8.05%, and the annual rate that year was 8.04%). Secured by a Deed of Trust instrument containing the Due-on-Sale clause included. In July of 1975, Cynthia Wellenkamp purchased the property by assuming the balance of the loan at the 8%. In July 1975 the going interest rate was 8.89% for FHA. The prevailing interest rate from Bank of America would’ve been nearing 9.25%. The Deed was transferred and recorded into the name of Cynthia Wellenkamp on July 10th, 1975. It has been said that Wellenkamp made her July payment and Bank of America returned the payment citing it’s right to accelerate the loan and calling it due. The bank did offer to refinance the loan in her name at the 9.25% rate. Wellenkamp refused and so Bank of America filed a NOD (Notice of Default).
Wellenkamp had argued that the security of the loan had not been impaired by the transfer in ownership of the property or as a result of the sale and that it constituted and unreasonable restraint in violation of California law. The Wellenkamp case made it to the Supreme Court and the court found in her favor. Other similar cases had also been brought into the California Supreme Court and had similar findings on the part of the Petitioner (homeowners). Those decisions said that the Due-on-Sale clauses were not enforceable unless the lender could prove impairment of security.
This obviously unleashed the amount of assumable transactions being done not only in California but across the country. During these high interest rate times the Savings and Loans industry was hurting in a major way. So many of these homes were now being purchased with the assumption of the loans and the lending institutions were not able to write new loans using the current higher interest rates. Federally insured Savings and Loans were going bankrupt so the Federal Government pursued in overturning the Wellenkamp vs. Bank of America case and they were soon successful.
January 28th, 1982 U.S Supreme Court agreed to hear Fidelity Federal Savings & Loans vs. De La Cuesta. It was one of the cases originating in California. The U.S Supreme Court found in favor of the government in overturning the case of Fidelity Federal Savings & Loans vs. De La Cuesta resulting in momentum for the government to pass future legislation most notably the Garn-St. Germain Depository Institutions Act of 1982.
GARN-ST GERMAIN DEPOSITORY INSTITUTIONS ACT OF 1982
The Bill, whose full title was: To revitalize the housing industry by strengthening the financial stability of home mortgage lending institutions and ensuring the availability of home mortgage loans.
This Bill is named after it’s 2 sponsors Fernand Joseph St. Germain and Edwin Jacob Garn.
Co- sponsoring the act were 28 other members of Congress . The bill has a lot of other laws that were enacted within it, we’re more specifically concerned with Title III Part C which specifically states the following :
Part C - Preemption of Due-on-Sale Prohibitions - Permits a lender to enter into or enforce a contract containing a due-on-sale clause with respect to a real property loan. Postpones until three years after enactment of this Act authorization to enforce a due-on-sale clause in the case of any contract involving a real property loan made or assumed during a period when a State had prohibited due-on-sale clauses. Permits a State legislature to enact laws within such three-year period with respect to loans originated in non-Federal institutions. Permits the Comptroller of the Currency and the National Credit Union Administration to regulate similar loans originated by national banks or federal credit unions.
Sets forth circumstances under which a lender may not exercise its option under a due-on-sale clause.
Declares that such rules and regulations may permit a lender to exercise its option under a due-on-sale clause with respect to a real property loan and any related agreement under which a borrower obtains the right to receive future income.
The only ‘assumable’ mortgages now were those FHA and VA loans. On December 1st, 1986, FHA began requiring credit checks before they would approve loan assumptions and set a number of strict ‘Subject To’ related rules in place. While VA now would not allow assumptions of loans unless the new borrower was approved by VA as of February 29th, 1988.
The actual wording as taken from a Deed of Trust filed with the Maricopa County, Arizona Recorders office Friday March 27th, 2009 goes as follows:
Transfer of the Property of Beneficial Interest in Borrower. As used in this section 18, ‘interest the property’ means any legal or beneficial interest in the property, including but not limited to, those beneficial interests transferred in a bond for deed, contract for deed, installment sales contract or escrow agreement, the intent of which is the transfer of title by borrower at a future date to a purchaser.
If all or any part of the property or any interest in the property is sold or transferred (or if borrower is not a natural person and a beneficial interest in borrower is sold or transferred) without lender’s prior written consent, lender may require immediate payment in full of all the sums secured by this security instrument. However, this option shall not be exercised by lender if such exercise is prohibited by applicable law.
If lender exercises this option, lender shall give borrower notice of acceleration. The notice shall provide a period not less than 30days from the date the notice is given in accordance with section 15 within which borrower must pay all sums secured by this security instrument. If borrower fails to pay these sums prior the expiration of this period, lender may invoke any remedies permitted by this security instrument without further notice or demand on borrower.
Let me give you my interpretation of this mumbo jumbo. They (lender) has to the right to call the note(security instrument) due if you transfer ownership or beneficial interest. Plain and simple right?
So why is it then that so many GURU’s are selling these programs that are claiming to get around the Due-on-Sale clause? Isn’t it simple to see that even creating a Land Trust and transferring the beneficial interest in that property through the trust still constitutes an acceleration of the note due?
Now I believe in the use of Trusts for what I believe their intended purpose (asset protection and estate planning) however it clearly does nothing to protect the seller or buyer when any interest or ownership transfers.
Please know this information when doing transactions that will constitute the lenders right and ability to accelerate the note. It doesn’t mean they will, but they can, regardless of what you’ve been told.
Nick Johnson, a believer in Sub2 deals
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