Why this matters: All trust deeds contain a due-on clause. Mortgage holders use the clause to exact additional profits when interest rates rise. Buyers who take title to a property subject to an existing low-rate mortgage, and landlords with a low interest rate mortgage who enter into a lease agreement with a term more than three years expose themselves to a call by the mortgage holder or servicing agent. To waive the call, the mortgage holder offers to modify the interest rate and payment schedule at current market rates.
Mortgage holders interfere when interest rates rise
The single greatest burden on an owner of mortgage-encumbered property is the limits on the use and marketability of ownership rights which arise during half-cycles of rising long-term interest rates. The current half-cycle of rising mortgage rates began in 2013.
This burden is not the falloff in property value brought on by increasing long-term interest rates and parallel capitalization rate movement. It is transaction interference created by the existence of the due-on clause buried within all trust deeds encumbering property. The clause is boilerplate, since 1982 federal legislation reversed California law barring its use for fortuitous gain.
During long-term cyclical episodes of declining fixed rate mortgage (FRM) rates such as occurred during the period of 1983 through 2012, the due-on clause is rarely an issue for an owner. The clause lays dormant, unused by mortgage holders and servicing agents for its inability in times of declining mortgage rates to allow windfall profits on existing mortgages. Buyers simply originated their own mortgage financing at a rate less than the rate on the mortgage encumbering the seller’s property.
Investors return to take over virtuous mortgages
In the vicious recession phase of a business cycle, such as real estate has settled into in 2025, buyers will return to purchase property after prices fall and a bottom in pricing develops, likely around 2028. For a lot of these recession phase buyers, their most available and efficient purchase arrangement for financing the price paid is to take over the mortgage on property available for sale.
The attraction, apart from lower prices, is the interest rate and payments on the mortgage are far lower than rates and payments demanded to originate a new mortgage. That inversion did not happen in the 30 years between 1983 and 2013.
For example, a buyer takes over the existing mortgage as part of the price paid to purchase the property. The note rate on the mortgage is 3%, with the principal amortized by its monthly payment schedule.
The mortgage holder discovers the change in ownership and calls the mortgage due and payable since the transfer to the buyer triggered the due-on clause. Their motive is not about providing financing for housing.
With an eye on their bottom line, the mortgage holder offers to waive the call if the buyer agrees to modify the mortgage note. The terms for modification include a reset of the interest rate at 6% and the amount of the monthly payments to amortize the principal balance over the remaining life of the mortgage.
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Due-on clause
Mortgage holders increase profits as owners sell
Here, the mortgage holder or servicing agent may exercise their due-on clause rights to call the mortgage debt due on any type of transfer of any interest in the real estate encumbered by their mortgage. On calling the mortgage due, or threatening to, the mortgage holder is in a position to bargain for the profits available in the current mortgage origination market. By offering to waive the call, whether agreed to by the buyer or not, the mortgage holder either:
achieves a modification at current mortgage loan originator (MLO) terms; orcollects the payoff and originates a new mortgage at current MLO terms.
The sole purpose of the mortgage holder calling the mortgage due is to pump up their portfolio earnings on their existing mortgages. The objective is not to cover a risk of loss brought on by an unqualified buyer or tenant, but to profit from higher interest rates charged to originate new mortgages.
Critically, the due-on clause permits the mortgage holder or their servicer to interfere with an owner’s right to sell, lease or further encumber the property.
For example, a mortgage holder becomes aware an owner of a property encumbered by their mortgage has agreed to sell the property on terms calling for the buyer to take title subject to the mortgage. The mortgage, a 30-year FRM, has an interest rate lower than the rate presently charged by MLOs to originate a new mortgage.
The mortgage holder or servicing agent advises the owner of their due-on clause right to call the loan and offers to waive a call if the buyer formally assumes the mortgage with the mortgage holder. Thus, the owner is able to sell, lease or further encumber their property without further interference from the mortgage holder.
Of course, the mortgage holder or servicer will not waive the due-on clause without a modification of the note to increase the interest rate to current origination rates and set a higher monthly payment for amortization.
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Form-of-the-Week: Purchase Agreement — for One-to-Four Residential Property — with Buyer Broker Fee Provision [RPI Form 150]
Buying subject to versus assuming the mortgage
The Realty Publications, Inc. (RPI) purchase agreement contains terms for payment of the purchase price to include negotiations for the buyer to take title subject to a mortgage, with or without a lender-approved assumption/modification of the mortgage. [See RPI Form 150 §5]
The buyer and seller may agree to:
an assumption, in which the buyer formally promises the mortgage holder to make payments on the existing mortgage encumbering the property and the seller is relieved of “liability” for the mortgage balance; ora subject to transaction, in which the buyer agrees only with the seller to make payments on the mortgage, directly or indirectly, as the new owner.
Of course, a mortgage holder agreeing to a formal assumption and modification of their mortgage note evidencing the debt consents to the transfer and acknowledges the buyer as their borrower. Documentation includes a waiver of its right to accelerate payoff of the debt — the call, which only applies to this one transaction.
Thus, the mortgage remains of record in the name of the seller and subject to its original terms (same interest rate, principal balance, repayment schedule, due-on clause and borrower). Naturally, the mortgage holder for agreeing to increase their profits imposes assumption fees and charges as further exaction for the note modification.
Buyers without an assumption must cover the risks
Buyers taking title subject to the seller’s mortgage without the mortgage holder’s prior consent have a legitimate concern that the mortgage holder on becoming aware of the transfer will accelerate the debt — the call. The buyer must be prepared to respond to the mortgage lender or servicing agent, such as:
pay off the mortgage by cash or funds from a refinance;negotiate a waiver and note modification with the mortgage holder or servicing agent; orcontinue to make monthly payments and see whether payments are accepted while the mortgage holder or servicing agent does nothing further, lender conduct which waives their use of the due on clause.
In a subject to transfer without lender approval, the mortgage holder does not agree to the owner’s transfer of an interest in the secured property. Without mortgage holder consent, the mortgage holder may call the entire unpaid principal balance due and payable, and if not paid in full, start foreclosure.
A buyer in a subject to transaction who takes over a mortgage with a 3% interest rate — a common origination during 2020 and 2021 — will likely be pounced on by an astute mortgage holder or servicing agent. The mortgage will be called due and the buyer advised they can apply for a modification of the mortgage terms as an alternative to a payoff.
Some cash-heavy buyers may choose to disclose nothing to the mortgage holder about the transaction to avoid triggering a call. This is an effort to keep the lower interest rate for as long as it takes for the lender to discover the transaction. If the lender discovers the transfer and contacts the buyer, the buyer might keep making installment payments to see whether the lender takes further action.
However, the buyer needs to understand the mortgage holder wants to maintain maximum profitability, and possibly solvency, as in the late 1970s. To do so, they use the due-on clause to interfere with the owner’s transactions and modify the existing mortgage or, on a payoff, to fund a new mortgage at current interest rates.
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Triggering the due-on clause on use of ownership
Due-on clauses are more commonly known as due-on-sale clauses. As the name “due-on-sale” suggests, the most common event allowing a mortgage holder to use the due-on clause in their trust deed to call the debt due and payable is a pending or completed sale of the encumbered property.
However, “due-on clause” is a more accurate term. The sale of a fee interest in the encumbered property is not the only event triggering the clause.
On the mortgage holder’s awareness of the transfer, the mortgage holder must promptly interfere by calling the debt and accepting no further installment payments. With a call, the entire principal, together with accrued interest, is the only payment remaining, and installment payments no longer exist to be paid — only a single payoff amount may be accepted.
The mortgage holder or their servicing agent who accepts installment payments after knowledge of the transfer, and does so for a longer period than needed to administrate the call, has waived their right to enforce the due-on clause.
However, the due-on clause is triggered not only by a transfer of the fee simple using a grant deed or quitclaim deed, but by any method for transfer of any legal or equitable ownership interest or right in the real estate interest encumbered by the trust deed. [See RPI Form 404 and 405]
Examples of sales with seller financing other than a standard carryback trust deed include wraparound carryback security devices such as:
For example, a land sales contract does not involve conveyance of legal title to real estate to the buyer by deed until the price is paid as agreed by the buyer. The seller retains title on a land sales contract transaction, but not as the owner. The seller retains title as security for the carryback debt owed by the buyer which is enforced by foreclosure. However, the buyer under a land sales contract becomes the equitable owner of the property when the land sales contract is entered into and possession is transferred.
Here, the structuring of a carryback sale as a land sales contract — or trust deed — is a transfer related to the due-on clause in any trust deed encumbrance existing on the interest conveyed, whether any document of conveyance is recorded or not. [Tucker v. Lassen Savings and Loan Association (1974) 12 C3d 629]
When a transfer occurs which allows the mortgage holder to exercise their right to call for payoff of the debt, the due-on clause has been irreversibly triggered. The event took place.
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The commercial lease triggers the due-on call
A sale of fee ownership is hardly the only instance which triggers a due-on clause.
The due-on clause is also triggered by:
a lease with a term over three years; ora lease for any term when coupled with an option to buy.
For example, consider an owner who is constructing a commercial rental property who obtains a commitment from a lender for permanent financing to pay off a construction loan.
Funding of the mortgage commitment is conditioned on the property being 80% occupied by tenants with an initial lease term of at least five years.
The owner locates tenants for 80% of the newly constructed property, all with a lease term of five years or more. As agreed, the lender funds the commitment which is secured by a trust deed containing a due-on clause. The existence of five-year leases on originating the new financing does not trigger the due-on clause in the trust deed. The long-term leases were entered into before the trust deed was recorded.
However, after obtaining the mortgage, the owner continues to lease out space for five-year terms.
Later, when market interest rates have risen, a representative of the lender visits the property, having found no recorded conveyances. At the property, the representative observes new tenants have taken occupancy after the mortgage was recorded. The lender also learns that some of the preexisting tenants recently entered into lease term extensions or new lease agreements. The recently arranged leasing periods were greater than three years — leasehold interests granted by the owner after the mortgage was recorded.
The lender sends the owner a letter informing them the new leasing arrangements have recently come to their attention, and they demand payment by calling the mortgage due and payable within 30 days. The due-on event: the owner entered into lease agreements which granted leasing periods exceeding three years without the lender’s prior consent.
The owner claims the lender cannot call the mortgage since long-term leases were initially required by the lender as a condition for originating the mortgage.
Can the lender call the mortgage due or demand a recast of its terms at current interest rates?
Yes! By requiring leases with terms over three years as a condition for originating the mortgage, the lender did not preemptively waive its due-on right to call or recast the mortgage when a leasehold interest with a term over three years is granted by the owner after the mortgage was originated.
Related article:
May a buyer who acquires property subject to an existing mortgage which is in default reinstate the mortgage to cure the default when the lender has not called the mortgage due, refuses to accept reinstatement and starts foreclosure?
Stay tuned for our next article in this due-on clause series which explores a lease assignment or modification greater than three years, further encumbrance of a property, foreclosure by a junior lienholder, exceptions to the due-on clause enforcement and a mortgage holder’s waiver of their right to enforce the due-on clause.
