When a Parent Dies Owning a House with a Mortgage, May the Children Inherit the House Without Getting a New Mortgage?

4:50 pm Medicaid

When a parent dies owning a house that is subject to a mortgage, the question arises whether a child or other beneficiary of the parent’s estate can inherit the real property without obtaining a new mortgage by simply continuing to make the payments on the existing mortgage.

In general, mortgages are subject to a “due on sale clause,” which is a term in the mortgage agreement that allows the lender to accelerate the loan (that is, immediately collect the balance due) upon the transfer, or retitling of the real property to another person. However, under Federal law, there are a number of transfers that may be made without triggering a due on sale clause, including a transfer of the property to a relative of the deceased owner as a consequence of the owner’s death.

That Federal law is known as the “Garn-St Germain Depository Institutions Act of 1982”, which is codified at 12 USC 1701j-3.

Under that law, for residential real property with less than five dwelling units, the following transfers will not trigger a due on sale clause, or, put another way, the lender who holds the mortgage cannot force payment of the outstanding balance due on the mortgage if any of the following transfers occur:

1. the creation of a lien or other encumbrance subordinate to the lender’s security instrument which does not relate to a transfer of rights of occupancy in the property;

2. the creation of a purchase money security interest for household appliances;

3. a transfer by devise, descent, or operation of law on the death of a joint tenant or tenant by the entirety;

4. the granting of a leasehold interest of three years or less not containing an option to purchase;

5. a transfer to a relative resulting from the death of a borrower;

6. a transfer where the spouse or children of the borrower become an owner of the property;

7. a transfer resulting from a decree of a dissolution of marriage, legal separation agreement, or from an incidental property settlement agreement, by which the spouse of the borrower becomes an owner of the property; and

8. a transfer into an inter vivos trust in which the borrower is and remains a beneficiary and which does not relate to a transfer of rights of occupancy in the property.

William M. Gatesman works with clients to craft estate plans and asset preservation plans, some of which involve changing the ownership of real estate. Careful consideration must be made of the effect of any such transfer and whether a due on sale clause may be asserted as a consequence of the transfer.