Mortgage Assumptions and Due on Sale Clauses

Written by: Brad Sinclair and Kathleen Davis, Sinclair Davis – Barristers & Solicitors
Reproduced with their kind permission.

Recently the issue of mortgage assumptions has become a topic for discussion in Real Estate Transactions. It is generally understood that mortgages in Alberta are assumable, however recent developments indicate that this may not always be the case. Accordingly we feel that a brief review of the issues is in order.

Due on Sale clauses
Almost every mortgage contains a “due on sale” clause; if the property is sold, the mortgage becomes due and the lender can call the loan. Generally such clauses are ignored in Alberta, but in the rest of the country they are fully enforced. The reason due on sale clauses are not enforced in Alberta when mortgages are assumed is because the Courts have held that the clause is unfair in the case of the residential mortgage assumption. In other words, it might cause undue hardship to the buyer or a seller if the lender were able to call in a loan which was otherwise in good order.

Due to the position of the Courts, the vast majority of residential mortgages have been readily available for mortgage assumption purposes. In recent years, however, lenders have taken a tougher stance on assumptions primarily due to the risks they have perceived to have resulted from these transactions and are more regularly due on sale clauses.

Mortgage Fraud
The increased use of due on sale clauses by lenders is in most cases directly related to situations where the lender views a mortgage assumption in the context of potential fraud. A specific example is where a property is mortgaged by Party A and then a few months later it is “flipped” into the name of a new owner Party B who would otherwise not be able to qualify on the loan if they had been the original applicant.

Other facts such as the actual consideration paid by the buyer, the relationship of the buyer to the seller, or any other relevant factors such as who lived in the home will be used by the lender in determining whether a mortgage fraud has taken place and whether a due on sale clause will be invoked.

It is our understanding that most lenders do not have a problem with a legitimate arms length transaction where a buyer pays fair market value and intends to reside in the property as their principle residence. But due to the increased incidences of mortgage fraud over the past few years, banks are now starting to reserve the right to review any transaction on a case by case basis.

Consequences for Realtors
As a result of the above problems, it is possible that a client may purchase a home and the lender either refuses to provide a mortgage assumption statement or a client may purchase a home and then be faced with a demand for payment shortly after taking title and possession of the home. In both cases the buyer may look to the realtor for answers if the deal goes bad.

In the first case where a lender refuses to provide an assumption statement, the situation can result in the deal collapsing. We are aware of at least one lender who refuses to provide assumption statements until the buyer completes an application and is approved. The potential liability for listing and selling agents is that the clients relied on the advice of their respective realtor that the mortgage was fully assumable and, if the lender fails to approve the buyer, the realtor may be subject to claims of damages by the buyer or seller. In order to avoid this problem, the best recourse for the buyer’s agent is to make the transaction CONDITIONAL on the receipt of a valid mortgage assumption statement prior to closing.

In the second case, the problem arises after the transaction has closed so it is difficult to ascertain ways in which to avoid the bank calling the loan. The best way to determine the risks is to look again at the circumstances:

• was the property recently re-mortgaged?
• is the seller residing in the property if it is a high ratio mortgage?
• are the seller and the buyer related to each other or are they otherwise associated with each other?
• is there actual value paid or is it the transfer for $1.00 or some other nominal amount?
• is the buyer a company or an individual?

If a deal looks at all suspicious, there is a greater risk that the lender may call the loan and a lawsuit may result. In such cases, it may be better to fully disclose such risks to a buyer well in advance of closing to avoid potential liability.

Conclusion
The bottom line is that a residential mortgage is not necessarily assumable and because lenders are taking a tougher stance with due on sale clauses, it will require more due diligence on the part of the agents who negotiate assumption transactions. At the very least we strongly urge buyers and sellers to consider to obtain written confirmation from the lender that the mortgage will be allowed to be assumed prior to the waiver of conditions.

More questions, please contact us:
SINCLAIR DAVIS
Brad Sinclair
(403) 705-5131 or brad@calgarylegal.com
Kathleen Davis
(403) 543-8577 or kathleen@calgarylegal.com

SINCLAIR DAVIS

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