What Is a Due-on-Sale (DOS) Clause?
REtipster does not provide legal advice. The information in this article can be impacted by many unique variables. Always consult with a qualified legal professional before taking action.
Why Do Mortgages Have a Due-On-Sale Clause?
The due-on-sale clause protects lenders from losing money if the borrower sells a collateralized property to another party who is unknown, untrustworthy, and unable to keep up with the loan payments.
Due-on-sale clauses are included in many loan agreements and may be called other names such as “acceleration clauses” or “alienation clauses.”
Lenders include a due-on-sale clause in their loan documentation because they feel that the property’s security will be at risk if another party steps into the shoes of the original borrower upon which the loan was approved. The lender may also be able to make more money if they demand the full payment at the time of sale, typically when interest rates are rising.
The due-on-sale clause is a contractual right, not a law. Lenders may enforce the due-on-sale clause and demand the full payment of the loan if the property title is transferred. On the other hand, if payments continue uninterrupted, some lenders choose not to go through the motions of demanding repayment in full because consistent payments may be a better alternative than removing one borrower and underwriting a new loan to replace a source of income that was already consistent in the first place.
If the due-on-sale clause is triggered, the seller will be required to pay off the outstanding mortgage balance in full with the proceeds from the sale. Then, the new buyer has to negotiate a new mortgage.
The opposite of a due-on-sale clause is an assumable mortgage, which allows a new buyer to take over the mortgage from the seller without altering the terms of the loan. The seller no longer has any obligation toward the mortgage, and the buyer has to assume the monthly obligation of making loan payments.
Assumable mortgages typically have underwriting conditions. For instance, the new borrower needs to be just as creditworthy (if not more creditworthy) as the original borrower.
Due-on-Demand Clause vs. Due-on-Sale Clause
A due-on-demand is not the same thing as a due-on-sale clause. If a due-on-demand is stipulated or checked on a mortgage contract, it means the lender can demand the full payment of the loan at any time, for whatever reason. Therefore, the borrower should always ask the lender to clarify the conditions of this clause.
Do FHA Mortgages Have a Due-On-Sale Clause?
An FHA mortgage is one of the few types of mortgages that do not include a due-on-sale clause. USDA and VA loans are other examples of mortgages that do not have a due-on-sale clause stipulated in the contract.
These loans do not have a due-on-sale clause because they are actually transferable from one person to another, which makes the mortgage assumable (as mentioned above), which means the buyer of an assumable mortgage takes over the existing loan.
However, not every buyer can take over an assumable, federally backed mortgage. The lender will likely require specific qualifications from a buyer.
That said, some people are interested in taking over an assumable mortgage because it is possible for them to buy a property with an older, lower interest rate and a lower loan balance. This practice is most ideal in times where interest rates are high, so buying an assumable mortgage in a time where interest rates are low is an idea most buyers avoid.
Are There Exceptions to a Due-On-Sale Clause?
There are several exceptions to a due-on-sale clause, and most of them require the sending of a written notice to the lender in advance.
The due-on-sale clause is not triggered under the following circumstances, as provided by the Garn-St. Germain Act of 1982, particularly 12 USC Section 1701J-3:
- If a marriage undergoes dissolution and the spouse of the borrower becomes the owner of the property.
- If the borrower is the beneficiary in a transfer under an inter vivos trust, which does involve transferring the rights of occupancy in the property.
- If the property becomes owned by the spouse or the children of the borrower following a transfer.
- If the borrower dies and a transfer is made to a relative.
- If a leasehold interest of three or fewer years is granted without an option to purchase.
- If a joint tenant or a tenant by the entirety dies and the property is transferred by descent, device, or operation of law.
- If a purchase money security interest is created for household appliances.
- If an encumbrance such as a lien that is subordinate to the security instrument of the lender is created without relation to any transfer of rights of occupancy in the property.
- A due-on-sale clause, also known as an acceleration clause or an alienation clause, allows the lender to demand full payment of the loan’s balance when the property is sold or transferred.
- A due-on-sale clause is a common provision found in many loan agreements, except for federally backed loans. It protects the lender from the possibility of an unknown third party (the buyer) defaulting on the mortgage.
- There are exceptions to a due-on-sale clause as provided by Garn-St. Germain Act of 1982. However, some lenders may not even call the loan due even when the property is transferred, as long as the monthly payments continue.
- QuickenLoans (2020). What Is a Due-On-Sale Clause? Retrieved from https://www.quickenloans.com/learn/due-on-sale-clause
- UpCounsel Technologies (2020). Due-On-Sale Clause Exceptions: Everything You Need to Know. Retrieved from https://www.upcounsel.com/due-on-sale-clause-exceptions
- Gomez, J. (2021). What You Need to Know About Alienation Clauses. Retrieved from https://www.upnest.com/1/post/alienation-clause/
- Affiliated Mortgage (2019). What Does a Demand Feature Mean in a Mortgage Loan? Retrieved from https://affiliatedsd.com/affiliated-mortgage-news/demand-feature-mortgage
- Ference, A. (2018). What Is a ‘Due on Sale’ Clause? Don’t Sell Your Home Until You Know. Retrieved from https://www.realtor.com/advice/finance/due-on-sale-clause-mortgage-contract/
- Mohamed, R. L. Exceptions to the Due on Sale Clause. Retrieved from https://www.alblawfirm.com/case-studies/due-on-sale-clause/