Learning Outcomes
After reading this article, you will be able to explain how mortgages and security interests are transferred, including the effect of due-on-sale clauses, the liability of transferees, and the assignment of mortgage rights. You will be able to identify the consequences of taking property subject to or assuming a mortgage, and apply these rules to MBE-style questions.
MBE Syllabus
For MBE, you are required to understand the rules governing the transfer of mortgages and other security devices. This includes the rights and obligations of parties when a mortgaged property or the mortgage itself is transferred. In your revision, focus on:
- The effect of transferring property encumbered by a mortgage or security device.
- The operation and enforceability of due-on-sale clauses.
- The distinction between taking property "subject to" a mortgage and "assuming" a mortgage.
- The assignment of mortgage notes and the rights of assignees.
- The consequences of transfer by the mortgagee (lender) or mortgagor (borrower).
- The impact of recording statutes on transfers of mortgage interests.
Test Your Knowledge
Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision.
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If a buyer purchases land "subject to" an existing mortgage, which party is personally liable for the mortgage debt?
- A) Only the buyer
- B) Only the seller
- C) Both buyer and seller
- D) Neither party
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What is the effect of a due-on-sale clause in a mortgage?
- A) It prevents the mortgagor from transferring the property.
- B) It allows the lender to demand full repayment if the property is transferred without consent.
- C) It automatically releases the mortgagor from liability upon transfer.
- D) It converts the mortgage into a deed of trust.
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When a mortgagee assigns the mortgage note to a third party, what happens if the mortgagor pays the original mortgagee after receiving notice of the assignment?
- A) The payment is effective and discharges the debt.
- B) The payment is not effective; the mortgagor must pay the assignee.
- C) The payment is effective only if the mortgagee consents.
- D) The payment is effective only if the mortgage is recorded.
Introduction
Transfers of mortgages and other security devices are common in real estate transactions. Both the borrower (mortgagor) and the lender (mortgagee) may transfer their interests. The rules governing these transfers determine who is liable for the debt, who can enforce the security, and what rights and defenses are available to the parties. Understanding these principles is essential for answering MBE questions accurately.
Transfers by the Mortgagor (Borrower)
A mortgagor may sell or otherwise transfer property encumbered by a mortgage. The transferee takes the property either "subject to" the mortgage or by "assuming" the mortgage.
Key Term: Subject to the Mortgage When a transferee acquires property subject to a mortgage, the transferee is not personally liable for the mortgage debt. The original mortgagor remains personally liable, and the property may be foreclosed if the debt is not paid.
Key Term: Assumption of the Mortgage When a transferee assumes a mortgage, the transferee becomes personally liable for the mortgage debt along with the original mortgagor, unless there is a release. The lender can sue either party for the debt.
Due-on-Sale Clauses
Many mortgages contain a due-on-sale clause. This clause gives the lender the right to demand immediate repayment of the full loan balance if the property is transferred without the lender's consent.
Key Term: Due-on-Sale Clause A mortgage provision allowing the lender to require full repayment if the mortgaged property is transferred without the lender's written approval.
Liability of the Parties After Transfer
- If the transferee assumes the mortgage, both the transferee and the original mortgagor are personally liable to the lender. The lender may sue either or both.
- If the transferee takes subject to the mortgage, only the original mortgagor is personally liable. The lender may foreclose on the property if the debt is not paid, but cannot collect from the transferee personally.
Transfers by the Mortgagee (Lender)
A mortgagee may assign the mortgage and the mortgage note to another party. The assignee steps into the shoes of the original lender and may enforce the mortgage and note.
Key Term: Assignment of Mortgage The transfer of a mortgage and the mortgage note by the lender to a third party, who then acquires the right to collect the debt and enforce the security.
Effect of Assignment
- The mortgagor must pay the assignee after receiving notice of the assignment. Payment to the original mortgagee after notice is not effective.
- The assignee takes subject to the same rights and defenses as the original mortgagee.
Recording and Priority
Recording statutes apply to transfers of mortgage interests. A subsequent assignee who records first and takes without notice of a prior assignment may have priority, depending on the jurisdiction's recording statute.
Worked Example 1.1
A homeowner borrows $200,000 from Bank X, giving Bank X a mortgage on the property. The mortgage contains a due-on-sale clause. Three years later, the homeowner sells the property to Buyer, who takes "subject to" the mortgage. The homeowner stops making payments, and Bank X forecloses. Who is personally liable for any deficiency after foreclosure?
Answer: Only the original homeowner (mortgagor) is personally liable. Buyer is not personally liable because Buyer took "subject to" the mortgage. The lender may foreclose on the property but cannot collect any deficiency from Buyer.
Worked Example 1.2
Suppose in the previous example, Buyer had "assumed" the mortgage instead. The lender forecloses and there is a deficiency. Who can the lender sue?
Answer: The lender may sue either the original homeowner or Buyer, or both, for the deficiency. Both are personally liable unless the lender releases the original homeowner.
Worked Example 1.3
Bank X assigns the mortgage and note to Bank Y. The homeowner, unaware of the assignment, pays Bank X after receiving written notice from Bank Y of the assignment. Is the payment effective?
Answer: No. Once the homeowner receives notice of the assignment, payment must be made to Bank Y. Payment to Bank X after notice does not discharge the debt.
Exam Warning
A common MBE trap is confusing "subject to" and "assumption" of a mortgage. Only assumption creates personal liability for the transferee. Always check the language of the transfer and any agreements with the lender.
Revision Tip
If the facts are silent about whether the buyer "assumed" or took "subject to" the mortgage, most courts presume the buyer took "subject to" and is not personally liable.
Key Point Checklist
This article has covered the following key knowledge points:
- A mortgagor may transfer property encumbered by a mortgage; the transferee takes "subject to" or "assumes" the mortgage.
- "Assumption" of a mortgage makes the transferee personally liable for the debt; "subject to" does not.
- Due-on-sale clauses allow the lender to demand full repayment if the property is transferred without consent.
- The original mortgagor remains liable unless released by the lender.
- A mortgagee may assign the mortgage and note; the assignee acquires all rights of the original lender.
- After notice of assignment, payment must be made to the assignee.
- Recording statutes may affect priority between multiple assignees.
Key Terms and Concepts
- Subject to the Mortgage
- Assumption of the Mortgage
- Due-on-Sale Clause
- Assignment of Mortgage
