Att: Traditional Lenders - Question About Due On Sale Clause
Mindy JensenPro Member
BiggerPockets Money Podcast Host · Longmont, CO · Member since 2014 · 7k+ posts · 10k+ votesAtt: Traditional Lenders - Question About Due On Sale Clause
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Lender · CA · Member since 2015 · 9k+ posts · 10k+ votes
9yOriginally posted by @Mindy Jensen:
Can our institutional lenders chime in on this?
Hi Mindy,
No one internally would consult me before calling a note due, and I haven't had any past clients call me howling that their note was called due. I generally advise caution when asked. I know some folks have done it, however... it's pretty obvious when you're refinancing, you just took this property out of an LLC 5 seconds ago (& we had to get the prelim updated to reflect that), and all your other properties are in an LLC, what's going to happen 5 seconds after closing.
The big question I have is what will happen when the era of historically low rates invariably ends. We've been spoiled into thinking rates below 5% are 'normal' interest rates for the last several years, but historically that simply isn't true.
Let's pretend I'm a loan servicer, not a loan originator:
If I've got money out there at 4%, and I have some completely valid & legal pretext to get that money back so I can re-lend it at 7.5% because now 7.5% is a normal interest rate again, why the heck wouldn't I?
I would have to balance chasing that 3.5% spread against the possibility that some of those notes I call due go to foreclosure. One way I could do that is by only targeting (for example) NYC, Bay Area, Denver, Sacramento, etc, properties with lots of equity that will still be cashflow positive at 7.5% according to some AVM that I'd run on my portfolio of twenty thousand notes where the owner is in violation (they can see it the instant you put it in an LLC, even if currently they don't do anything), those properties thus flagged of course tending to be prime real estate and cashflow cows, and I'd let the "meh" properties remain in their LLC without doing anything. "Lots of equity and a cashflow machine" is not a protected class the way gender, race, etc, is a protected class, so no one could say that I'm discriminating by only targeting great rental properties with strong equity positions.
Potentially, this means folks are putting their very best properties especially at risk.
However, I'm not a loan servicer. This is just me 'in character' as a heartless and soulless entity run by a board of directors representing stockholders.
Quick note, you can get Fannie loan to a revocable living trust (still with PG and on your personal credit). If your last name is "Jones," your trust can still be called the "Smith" Living Trust, and you can do this right at closing, meaning that "Jones" never appears in public records at all (a trick celebrities use, or so I hear, after paying a lawyer a zillion dollars in fees to learn about it...). Pair that with a decent umbrella insurance policy, and you've got something that I've seen lawyers say is comparable in many respects to the goodies you get from an LLC.
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I'm not an institutional lender but as an investor who also looked to do a Land Trust and have the LLC be the beneficial holder (2nd) to the lender, it was near impossible to get them to understand the structure and that was "with" someone who does asset protection assisting me. Although the structure of LandTrust-LLC rather than directly using an LLC differs, they (lenders) still frown upon the structure that is anything outside their norm. While I found they cannot and could not lift a finger to "due-on-sale-me" using a Land Trust, they were still not forthcoming in not saying they look on this favorably. The issue, at least for me and what I've seen others say, is that we never know IF the lender will decide to turn ugly even on a paying note.
- Lender · CA · Member since 2015 · 9k+ posts · 10k+ votes9y
Originally posted by @Mindy Jensen:
Can our institutional lenders chime in on this?
Hi Mindy,
No one internally would consult me before calling a note due, and I haven't had any past clients call me howling that their note was called due. I generally advise caution when asked. I know some folks have done it, however... it's pretty obvious when you're refinancing, you just took this property out of an LLC 5 seconds ago (& we had to get the prelim updated to reflect that), and all your other properties are in an LLC, what's going to happen 5 seconds after closing.
The big question I have is what will happen when the era of historically low rates invariably ends. We've been spoiled into thinking rates below 5% are 'normal' interest rates for the last several years, but historically that simply isn't true.
Let's pretend I'm a loan servicer, not a loan originator:
If I've got money out there at 4%, and I have some completely valid & legal pretext to get that money back so I can re-lend it at 7.5% because now 7.5% is a normal interest rate again, why the heck wouldn't I?
I would have to balance chasing that 3.5% spread against the possibility that some of those notes I call due go to foreclosure. One way I could do that is by only targeting (for example) NYC, Bay Area, Denver, Sacramento, etc, properties with lots of equity that will still be cashflow positive at 7.5% according to some AVM that I'd run on my portfolio of twenty thousand notes where the owner is in violation (they can see it the instant you put it in an LLC, even if currently they don't do anything), those properties thus flagged of course tending to be prime real estate and cashflow cows, and I'd let the "meh" properties remain in their LLC without doing anything. "Lots of equity and a cashflow machine" is not a protected class the way gender, race, etc, is a protected class, so no one could say that I'm discriminating by only targeting great rental properties with strong equity positions.
Potentially, this means folks are putting their very best properties especially at risk.
However, I'm not a loan servicer. This is just me 'in character' as a heartless and soulless entity run by a board of directors representing stockholders.
Quick note, you can get Fannie loan to a revocable living trust (still with PG and on your personal credit). If your last name is "Jones," your trust can still be called the "Smith" Living Trust, and you can do this right at closing, meaning that "Jones" never appears in public records at all (a trick celebrities use, or so I hear, after paying a lawyer a zillion dollars in fees to learn about it...). Pair that with a decent umbrella insurance policy, and you've got something that I've seen lawyers say is comparable in many respects to the goodies you get from an LLC.
- Lender · CA · Member since 2015 · 9k+ posts · 10k+ votes9y
Quick note #2. Make sure you are aware of local transfer taxes in your area. Oakland and Berkeley, for example, are at $15 per $1k in value. Sometimes there are tricks to dodge that transfer tax when going into or out of an LLC, but don't assume upfront that it'll be applicable to you, or that the city won't have some new tax collector (or elected official) out to make a name for himself by going after "evil landlords"!
- 9yChris LopezPro MemberReal Estate Agent · Denver, CO · Member since 2015 · 1k+ posts · 858 votes
I've heard other people speculate as @Chris Mason mentioned that loan servicers are just waiting until rates go up a couple of points and then will start enforcing the clause. It's all just speculation.
I don't understand the obsession that many people have with putting their properties into LLC's. Until you have a lot of properties and equity, why put up the expense and hassle? Concerned about liability - just pay a few extra bucks to up the insurance limits.
- Investor · Denver, CO · Member since 2015 · 492 posts · 267 votes9y
It will take about 6 months to foreclose on someone. If they contest or file bankruptcy, good luck getting it back in a year. Also I'm sure the upset home owner will then destroy the home in every conceivable way possible, making the value plumbet. Talking about concrete in the pipe lines, ripped out electrical, holes in the roofs, destroyed foundation, destroyed walls, flooding the house with water, ripping out and selling all the cabinets, and selling the appliances. Bathrooms completely ripped out, and #1 and #2 all over it. You think Renters are bad, try taking someones house away that has been living there and putting money into it for years. In that time, the bank will be paying taxes, insurance, and upkeep on the home. Not only that, but now they are also Minus whatever your payment was monthly. If you paid $2,000/month on a mortgage, now the bank will be negative $2,000/ month for 6months to 1year+. that's $12,000-$24,000+. Not to mention the cost of Insurance, Taxes, and Property Manager to handle the issues, clean out, board up, and repairs. The Repairs will be in the 10s of thousands. Then once that is all done, the home is sold at FORECLOSURE AUCTION. That means it will probably not go for Full Market Value, due to the destruction alone, but WAY BELOW. That's a lot of work to turn a PERFORMING NOTE into a NON-PERFORMING NOTE. Then they don't even get to sell it at the new Interest rate. They get paid back at the old rate, and now they don't have the property anymore. They don't get to put a loan on the new owner. It seems pretty worthless to go through all this to try and justify a spread of x-points, when you will not be getting those interest payments anyway.
Insurance is not going to cover you personal assets. If you lose in court, and YOUR NAME is on the Contract, then whoever is suing you can come after your CAR, your PERSONAL BANK ACCOUNTS, YOUR OTHER PROPERTIES. Anything with your name on it.
If you control (OWN) an LLC, and someone sues that LLC, because it's on the Contract NOT YOU, then the person suing can only get at what the LLC owns. What does that LLC own? The ONE HOUSE you put in it. Your personal stuff is OFF LIMITS. Just keep a separate account that manages your cashflow from your properties, pays the mortgages, and distributes the profit to YOU. That is how a CORPORATE Structure works. Also have good insurance to cover issues.
Or you can lose everything when you put everything in your name, and your INSURANCE Company Finds a loop hole and doesn't pay on claim. Then you will have to Sell all your houses, and cars and nice stuff, and empty your bank accounts to pay off a lawsuit.
Choice is yours...
@Robert Herrera what market are you in that your scenario is a common occurrence? Last time I heard around a year ago, Denver area was selling foreclosures at 0%-10% below FMV, and not in the completely destroyed worst-case scenario that you are painting. Also, are you saying that the bank does not add in their holding costs into the expenses paid off by auction? Your interest rate portion has me confused because the buyer at auction is going to either fix it and sell it to an occupant that gets a loan at the higher interest rate, or fix it and sell it to an investor, who will likely leverage it using a bank at the higher interest rate.
Your LLC solution also only works if you are not managing the properties. If you are, then they will also sue you personally as the manager, which puts all of your LLCs at risk, particularly if the are SMLLC.
Does DoS clause get called? Yes. Can insurance help? Yes. Can LLCs help? Yes. It's all basically irrelevant to the discussion since Mindy was asking lenders to weigh in on the Due on Sale clause, not on asset protection in event of a suit.
@Daria B., the lender can still accelerate your loan using that strategy. If the beneficiary is not the same thing as what is on the note, then you have triggered the DoS and the lender can accelerate the note. Look up the Garne St. Germaine Act and you will see that the beneficiary must remain the same. If the lender felt like it they could ask for the trust documents and verify who the beneficiary is. My guess, just like my guess for regular acceleration by changing ownership, is that they just don't really care or feel like spending the time. It is not because they aren't allowed to.
- Investor · Denver, CO · Member since 2015 · 492 posts · 267 votes9yBryan Otteson if you start a management company, then manage your multiple LLCs through your management company LLC, you separate yourself from your LLCs. Someone can sue your management company as the manager of the property, but they would just run into another LLC. Why would someone buy a foreclosure for full market price that wasn't fixed up? Why would they turn around and put money into it, then sell it at full market price? Doesn't seem to make financial sense, as you would be in the negative. Why wouldn't they just buy a house of the MLS at full price that was already fixed up? Also, the bank doesn't get to make a new loan to the new buyer, a different bank or organization will probably make the loan. Now , since they got rid of the performing note and property, they have to "qualify" a whole new person and go through the process of purchasing a new property with those funds. The only way the bank would even POSSIBLY consider doing this, is if they didn't have anymore money to lend, then maybe they would call some due to get some money back... but when does the bank run out of money? They don't, they government just let's them keep printing 10X what they hold. Seems like a lot of wasted time. Has ANYONE ACTUALLY SEEN A DUE ON SALE CLAUSE initiated by the bank? Seems like a, "I know a guy who knows a guy, who the bank screwed over," but no one ever stands up and says "my property was taken by a due on sale clause."
Hi @Robert Herrera. The reason people are paying that high for foreclosures is very simple: inventory. There isn't enough, which drives up the prices even in foreclosures so a 10% discount is better than a 0%.
Banks have an oligopoly on the financial market. In a single, isolated due on sale incident you are right, it will probably be a different bank that loans to the buyer. Does it matter? No, because if only a handful of banks do this, then the loans get spread back out. I don't know if this is actually part of the strategy or not, but it makes sense.
Regarding your all caps sentence about due on sale, I met a person at a small training here in Denver who had his note called due. He had transferred it 2 years prior without ever missing a payment. They just sent a letter to him out of the blue and he had 30 days to get it back in his name or pay it off. None of the "Oh if you just pay on time it will be fine" stuff that everyone likes to preach. Here is a guy on BP that stood up and said the due on sale clause was called, since you were asking and not bothering to look yourself. I met someone at 1 or 2 BP meetups ago that had their note called. There are reasons why banks will do it and it is discussed at length on the forums. Your statement "The only way the bank would even POSSIBLY consider doing this, is if they didn't have anymore money to lend, then maybe they would call some due to get some money back" is complete BS. If the bank wants to sell the note and diligence is performed they are not able to sell it. They have to "correct" it in order to sell. Selling notes is common for banks.
It seems like you are more interested in presenting a bunch of opinion and wanting someone else to do the work for you to to prove it wrong than you are in actually growing your knowledge. I'll see you around in other topics or at the meetup.
@Robert Herrera I would like to caution folks reading this thread that, if not done properly, doing what you propose re: the property management company can turn into a complaint with DORA for unlicensed real estate brokering. You must be a licensed real estate broker to manage property in Colorado unless you own a certain interest in the property, or you are an on-site property manager for a certain type of property. So do not start managing property through a "management company LLC" without seeking advice from an attorney (not to mention, I'm not confident it prevents you from getting sued personally anyway).
- BiggerPockets Money Podcast Host · Longmont, CO · Member since 2014 · 7k+ posts · 10k+ votes9y
@Bryan O. , thanks for the link to Serge's thread. That is precisely what I was looking for.
I see many people saying it never happens, but it absolutely DOES happen and planning your business around hoping something doesn't happen isn't a smart move.
@Mindy Jensen since I had some time during lunch and you are my favorite Mindy in the world, I did a little deeper checking on DOS in BP forums:
- Bill Gulley saw it frequently (just scroll down to his book-length post. Ronnie C. also had DOS invoked further down the thread. His was the typical guru-hype "impossible to call due" deeding the property into a trust with his LLC as the beneficiary. The bank took it to foreclosure rather than let him cure
- Jay Hinrichs said he was accelerated and had to pay it off once in this thread and in this thread
- Kamil Maras was accelerated
- Chip Chronister had it here, and Brian Derryberry further down the post
- Heidi Conrad had it here
- Paul Beauchemin had the bank give him an option when they realized it
- Rental Property Investor · Rockford, IL · Member since 2014 · 4k+ posts · 2k+ votes9y
You can probably see that yes, in some cases with certain notorious lenders, DoS does indeed get invoked.
In general, however, experience seems to indicate that as long as the payments are being made many lenders will find "bigger fish to fry" which won't cost them as much to go after.
As long as REIs resist the concept of building a business before trying to run it, this will continue to be a point of discussion, I'm sure. Turning a hobby (owning in your own name) into a business always results in a great deal of duplicated and easily avoided effort and expense.
"... but, setting up entities costs $$$ ..." ... and losing properties in foreclosure doesn't?
- Lender · Denver, CO · Member since 2017 · 52 posts · 22 votes9y
Hi Mindy -
I work for a FNMA direct lender and I can tell you that every conventional loan Promissory Note includes a due on sale clause. This clause stipulates that if the property is transferred from the original owners/borrowers, then the lender reserves the right to call the loan due and potentially foreclose on the property if you aren't able to pay off the loan.
It's important to understand that if you violate this term of the Note, you are knowingly going outside the terms of the agreement between you and the lender; thus the lender is well within their rights to require immediate repayment. Obviously some lenders will call the loan due and some (many?) lenders will not call the loan due immediately.
I'm 100% certain that you can find all kinds of people that tell you "it's ok," "everyone does it," "I've never had a problem with it," etc. But you want to go back to the old quip from years ago "if everyone jumped off a bridge, would you do it too?" There are pros/cons to every deal structure, but I'd encourage you to read your Note and Deed of Trust very carefully and make sure you understand what you are doing if you start violating the terms that you're agreeing to.
Understanding that this is not a grey area and it is clearly spelled out in your agreement with the lender is an important part of determining your risk/reward with transferring properties. Obviously seek out legal/tax/insurance counsel in order to determine the best route for your individual circumstances.
I hope that helps and let me know if there are other specific questions that I can answer.
- Investor · Denver, CO · Member since 2015 · 492 posts · 267 votes9y
@Drew Fein In this thread I was talking about owning your own "Private" managment company, managing Your Own Properties. Not Managing other peoples properties.
- Investor · Denver, CO · Member since 2015 · 492 posts · 267 votes9y
@Bryan O. As you can see, i understand how LLC's work, I understand that you can't Manage someone else properties legally, buy you can manage your own with a management company. I meet with my Team every month as I add more properties to my portfolio about once every month or 2. I just posted about how the Foreclosure process works, and what kind of time it takes to go through the courts. Seems like a lot of FACTS presented here.
As you can plainly see, DOS doesn't happen all the time. It is a very rare occurrence when you have to present something that happened 2+ years ago. 7months in 1 case I guess.
Duncan Taylor said specifically in your first link
"Your mistake was using the trust nonsense touted by the gurus out there.
I have done well over 1500 sub2 deals over the last 36 years. I have never, ever had the note called due.
In every case I have ever seen where the note was called due, there was something else going on, like using a trust to try to hide the transfer from the lender.
Transparency is your friend if you don't want the lender to get nervous and call the note due."
I think I trust his 1500 deals over someone who has never done 1.
After reviewing the links, it looks like Jay Hinrichs had his called because the Seller he Bought it from, went down to the bank and told them what happened.
Kamil Maras went and got another loan from the same lender. The lender went through the documents to see what his assets were, debt to income etc. That's when they noticed, and wanted the money before doing another loan. So he triggered it by his actions.
Chip had the sellers going through Chapter 13 bankruptcy which meant they need to sell the house to cure the debt for the bankruptcy.
If you Actually read Brian Derryberry's post, he had a DOS called, and he fixed it by pulling the mortgage out of the Bankruptcy with a form from the original owner and the bank. He got it from Bank of America and they let him do it. So NO, he didn't lose the property.
Heidi Conrad did a Wrap with a person who didn't know what they were doing. Also, that person refused to give her authorization to talk to the bank, then wanted her to put it back in his name. It seems like she was getting scammed by the original seller as to how this is playing out.
Paul Beachemin didn't have the DOS clause initiated at all. The bank simply asked if he would co-sign for those people. He did and it went fine. Now he does these with Trusts.
As you can see, I do my own research, and Fully Read the "evidence" put forward into an argument. I read books every day, I listen to BP podcasts and many others through out the day. I listen to Audible books in my work truck with my Business partner Every Day. I'm constantly growing my knowledge before, and after Every Single Deal. I see you're more interested in proving me wrong that you just pulled the first sources that came up. As you can see, they all had some Underlining issue that caused all the problems.
Yes, I'll admit DOS clauses happen, but as Duncan Taylor Put it "In every case I have ever seen where the note was called due, there was something else going on,..."
Thanks for putting up a good argument though, I'll see you around in the post, and at the BP meetups. Happy 4th of July Everyone!
- Rental Property Investor · Rockford, IL · Member since 2014 · 4k+ posts · 2k+ votes9y
Happy 4th, Everyone!
I was thinking about what folks are saying here. The thought occurred to me that there's probably a reason why there's no money to be made as a "Title Monitoring Service" (like credit monitoring): lenders generally see no reason to go "looking for trouble" unless trouble finds them first (missed payments, other issues). There are exceptions, of course.
Still, foreclosure brings no profit, only expenses. So they only pursue that when other remedies prove fruitless.
- 9yJay HinrichsBusiness MemberReal Estate Consultant · Summerlin, NV · Member since 2014 · 45k+ posts · 66k+ votes
@Mindy Jensen DOS is standard boiler plate in virtually every security document I have read or created when I loaned... and of course its at the OPTION of the holder of the note..
Does it happen sure.. does it happen often No... should you have a plan if it does YES..
I think we are moving into uncharted waters were you had these historically super low interest rates and if and when rates move up what will lenders or servicers do ??
In my mind the real risk is with the sub too seller as this is were most of this activity takes place its the original sellers credit at risk... and most sellers if they actually got independent third party consultation's would never do sub too.. unless their credit and financial situation was already trashed.
- Investor · Menifee, CA · Member since 2015 · 534 posts · 216 votes9yJay Hinrichs my private lender told me there will be no issues with having the loan in my name and property in my LLC and this is coming from my lender. Is he the only one that can call the loan due??? Another thing that boggles my mind is why does it matter so much that if you can show the lender your operating agreement that shows you are the owner of the LLC, what's the difference! Loan in your name and property in your LLC, which your the owner of. Why would they call it due and if you showed the lender this then why would they continue to foreclose?? I see why in a sub to deal, but please give me some good reasoning on this.
- 9yJay HinrichsBusiness MemberReal Estate Consultant · Summerlin, NV · Member since 2014 · 45k+ posts · 66k+ votes
@Mike Flora your confusing the alienation clause with a business arrangement from day one.. most private lenders MUST lend to LLC for Dodd Frank reasons.. Even so I suspect the boiler plate in your Deed of Trust or Mortgage will have an Alienation clause IE you sell it to another disassociated 3rd party and he or she will have the right to call the loan due.
transferring for estate purposes and or from person to your personal LLC is not anything that I have personally seen called.. its only when as stated above going to some other entity not you or your LLC.
- Investor · Menifee, CA · Member since 2015 · 534 posts · 216 votes9yGot it, thanks Jay Hinrichs
@Robert Herrera, my comment was because you made it sound as though there was a separate entity for the property management company.
If you own a property at 123 Main Street in 123 Main Street, LLC, but you want to manage it with your separate property management company, Property Management, LLC, then Property Management, LLC must be a part owner of the property (i.e., a member of 123 Main Street, LLC). Make sense?
- Investor · Denver, CO · Member since 2016 · 736 posts · 582 votes9y
@Mindy Jensen - not a lender but I did see it happen once a while ago. There was an investor that bought a foreclosure across the street and one house over from my personal residence. My understanding is this investor was telling banks that the houses he was buying were "vacation homes". I was told he had seven rentals in this situation.
DOS was invoked and he lost all his rentals - this was in 2007. Chain of title at the assessor's office indicates LaSalle National Bank took title to the property
- Investor · Denver, CO · Member since 2015 · 492 posts · 267 votes9yDrew Fein yes, thank you for the clarification for everyone here.
As an attorney that represented traditional lenders, I can confirm that the lenders do enforce Due On Sale Clauses for Fannie and Freddie loans. They are required to do so as servicers for these loans. Now for this to happen, the lender will need to find out about it. But if they do, they are required to follow steps or potential deal with wrath from Fannie and Freddie some point. Below is the link to relevant guidelines from Fannie. Freddie has one as well, but not as easily accessible.
https://www.fanniemae.com/content/guide/servicing/...
As for other kinds of loans, I guess it depends. We did use due-on-sale clause as a reason for default, but these borrowers had 100 other problems that were more problematic.
@Robert Herrera : have you ever dealt with this issue with a very large bank like J.P. Morgan or Bank of America? I'm friends with lawyers at law firms that virtually handles every single foreclosure for these banks in Pennsylvania. Despite this, if I asked them for a warm body within these banks that could resolve these issues, they won't know who to talk to. So if your DOS gets called with these banks firms, they will follow through with the simple fact that literally no one knows who can stop the foreclosure. When you have trillion dollars in assets, the cost of hiring attorneys to handle foreclosure doesn't even register on their balance sheet.
Disclaimer: While I’m an attorney licensed to practice in PA, I’m not your attorney. What I wrote above does not create an attorney/client relationship between us. I wrote the above for informational purposes. Do not rely on it as legal advice. Always consult with your attorney before you rely on the above information.
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