Due-on-Sale Clause

A Due-on-Sale Clause (sometimes loosely referred to as an acceleration clause) is a standard provision in a mortgage or deed of trust contract. In simple terms, it gives the lender the right to demand full repayment of the outstanding loan balance if the property securing the loan is sold or transferred to a new owner. This means you can't just sell your house and have the new buyer take over your existing mortgage payments. When the title of the property changes hands, the lender can “call the loan,” and the seller must use the proceeds from the sale to pay off the mortgage in its entirety. This clause is a powerful tool for lenders, designed to protect them from specific risks, and it fundamentally shapes the landscape of real estate transactions.

Imagine you lend your trusted friend, Dave, $500 to buy a vintage guitar. You give him a great deal—a low interest rate of 1%—because you know Dave is responsible and will take excellent care of the instrument. A year later, Dave decides to sell the guitar to a complete stranger. The due-on-sale clause is like you telling Dave, “Hey, if you sell that guitar, our deal is off. I need my $500 back immediately.” You wouldn't want some stranger you've never met to inherit the sweet 1% interest rate deal you gave specifically to Dave. You'd rather get your money back and decide for yourself if you want to lend it out again. Banks feel the exact same way about the millions of dollars they lend for property.

Lenders aren't just being difficult; they include this clause for two very important reasons:

• To Manage Interest Rate Risk: This is the big one. Let's say you took out a mortgage in 2021 at a rock-bottom rate of 3%. If you sell your home in 2026 when the prevailing rates are, say, 7%, the bank would be losing money if the new buyer could simply assume your 3% loan. The bank wants its money back so it can lend it out to someone else at the current, higher rate of 7%. The due-on-sale clause allows them to do just that, protecting their profitability in a rising-rate environment.
• To Manage Borrower Risk: The bank approved your mortgage based on your financial situation—your credit score, income, and debt levels. They don't know the new buyer from Adam. The buyer could have a terrible credit history or an unstable job. The clause prevents the lender from being forced into a relationship with an unvetted, potentially riskier borrower, ensuring they only lend to individuals who meet their underwriting criteria.

For a value investor interested in real estate, understanding this clause is non-negotiable. It directly impacts several common investment strategies.

In the 1970s and early 1980s, when interest rates were sky-high, it was common for buyers to find a home and “assume” the seller's existing low-interest-rate mortgage. This creative financing made houses much more affordable. The widespread enforcement of due-on-sale clauses, solidified by U.S. federal law in 1982, effectively ended this practice for most conventional loans. Today, an assumable mortgage is rare, largely confined to government-backed loans like FHA, VA, and USDA loans, which have specific rules for assumption.

A popular strategy for real estate investors is buying a property “subject-to” the existing financing. This means the investor takes title to the property and starts making the mortgage payments, but the original loan remains in the seller's name. This can be a win-win, but the due-on-sale clause is the ticking time bomb in the deal. If the lender discovers the title has been transferred, they can—and often will—call the entire loan due immediately. This can force the investor to scramble for expensive new financing or risk foreclosure.

Yes, but they are specific and mostly relate to non-sale transfers. In the United States, the Garn-St. Germain Depository Institutions Act created several key exceptions where a lender cannot enforce the due-on-sale clause. These include:

• A transfer to a spouse or children resulting from a death or divorce.
• A transfer into a living trust in which the borrower remains a beneficiary and occupant.
• A transfer to a relative upon the death of the borrower, provided the relative will live in the property.
• Adding a second borrower (e.g., a spouse) to the title.

These exceptions are designed to protect families during major life events and are critical for estate planning, but they do not typically apply to a standard, arm's-length sale to a third party.

The due-on-sale clause is a standard feature of modern mortgages that protects lenders' interests by ensuring loans are repaid when a property is sold. For investors, it largely closes the door on creative financing strategies that involve taking over a seller's attractive loan terms. While it might seem restrictive, it's a fundamental rule of the game. Always assume a loan will be called due upon sale, and if you're ever considering a transaction that hinges on an existing mortgage staying in place, be sure to consult with a qualified legal professional.