Transferring Investment Property into an LLC (The Due of Transfer Clause)

As part of a comprehensive Asset Protection strategy, we often recommend putting investment property into an LLC.  The advantages of using an LLC to hold real estate are significant and moving your investment property into the LLC is often critical to accomplishing solid asset protection.

However, one of the most common questions we get is:

"What about the Due on Transfer clause in my mortgage?"

This is a valid consideration and so a bit on an analysis is warranted here.

It is true that almost all mortgages will have a clause in the loan documents which effectively says that if you transfer the property, then the bank has the option to accelerate the loan, making it payable in full.   This leaves two options:

1. Ask the bank for permission to transfer the property into the LLC.
2. Don't ask the bank for permission and make the transfer anyway.

Over the past 25+ years, we have helped clients make thousands of transfers into LLCs.  We have seen it done both ways and my experience is the following:

Clients who have asked permission of the bank to make the transfer have almost always opened up a can of worms. 

• Firstly, the bank who made the loan almost never still owns the loan.  It is estimated that 97% of non-bank originated loans are sold and over half of bank originated loans are sold.  This means that it is difficult to even find the proper party to request the change.
• For loans which have been sold, there is very little chance that you will receive permission to make the transfer.
• In the cases where I have seen banks give permission, they have often come with a re-underwriting of the loan and sometimes an increase in the interest rate.
• The time delay is often significant and the banks have little motivation to help you or move things along.

The other option is to simply make the transfer and not ask the permission of the bank.  My experience here is quite different.  99% of all transfers are simply disregarded.  Meaning, the client is never contacted about the transfer. The reason for this is pretty clear:

• The transfer does not affect the validity of the mortgage; therefore, the bank or servicing company has virtually no incentive to monitor transfers. 
• Monitoring transfers would be both expensive and potentially detrimental.  Should they find a non-permitted transfer, then it would be incumbent on the bank to either call the loan, or make an exception, both of which requires time and resources.  This could also cause the bank to essential discover that a large % of their loan portfolio is 'non-compliant' which could instantly cause them to have regulator issues.

Given my experience with both options, my advice to clients is that making the transfer without permission is worth the slight risk that the loan could be called.  In fact, in the past 25+ years, I have had only 2 clients ever be contacted by their bank.  In both cases, the banks were small local banks, and in both cases, the banks gave permission after the fact with little trouble.

So is there any real risk to make a transfer of your investment real estate without bank permission?  Of course, there is.  Any particular bank could reverse policy in the future for some reason.  I can imagine at least one situation in which interest rates increase dramatically, and banks go hunting in their loan portfolios for ways to call otherwise performing loans.  While I have never seen this happen, it is a risk which should be considered.  

For virtually all of my clients, the benefits of protecting the real estate in an LLC outweigh the risk of the bank calling the loan, and they choose to make the transfer.

It should also be noted that there are some exceptions which do not permit the bank to accelerate the loan:

Exception #1:

When transferring your home into the Bridge Trust, there is an exception to the Due on Transfer clause call the Garn St. Germain Act.  Essentially, the bank cannot object to a transfer to a Grantor Trust which does not affect occupancy.

Exception #2: 

For loans which are under the FANNIE MAE program the following applies:

D1-4.1-02: Allowable Exemptions Due to the Type of Transfer (04/13/2022)

Introduction This topic contains information on allowable exemptions due to the type of transfer. Unless the previous borrower requests a release of liability, the servicer must process the following exempt transactions without reviewing or approving the terms of the transfer: A transfer of the property to: ...

a limited liability company (LLC), provided that the mortgage loan was purchased or securitized by Fannie Mae on or afer June 1, 2016, and the LLC is controlled by the original borrower or the original borrower owns a majority interest in the LLC, and if the transfer results in a permitted change of occupancy type to an investment property, such change does not violate the security instrument (for example, the 12 month occupancy requirement for a principal residence).

For our clients, if you have any questions please do not hesitate to contact our office at [e-mail] and we can discuss your specific situation.