Summary: There are few things that cause more angst among rental property owners than the due on sale clause. But what is it, and how much of a risk does it really represent? In this article, we cover the basics of the due on sale clause and explain why it may not be as much cause for concern for owners who are transferring their property into an LLC.

What Is the Due on Sale Clause?

The due on sale clause is a language written in your loan documents that says you may have to pay the full loan balance when you transfer ownership of a property. The bank doesn’t have to call your loan, they just have the right to do so.

This protects the bank because they have loaned you the money, not somebody else they don’t know. They go through considerable effort to verify that you are a qualified borrower. 

Why Do Investors Worry About the Due on Sale Clause When Transferring to an LLC?

Most rental property owners buy a property with a residential loan in their own name and then transfer the title of the property to an LLC. 

LLCs provide legal protection of personal assets and anonymity, and we have discussed these benefits of LLCs in a previous article.

The reason investors fear the due on sale clause is that transferring a property into an LLC may trigger it. There is a fear that lenders may force you to pay the full loan balance. Imagine having to immediately come up with hundreds of thousands of dollars or risk having the bank foreclose on your property. You can understand why investors fear the due on sale clause.

As a result of this fear, some rental property owners choose not to use LLCs for their rental properties. Instead, they rely on insurance alone. 

How Likely Is It That a Bank Will Actually Trigger the Due on Sale Clause?

Nobody knows exactly, but anecdotal evidence suggests that the risk is small. Ask almost any investor and they will tell you that they have never met anyone who had their loan called for transferring a property into an LLC. 

We have even had conversations with lenders who have told us over the phone (but not in writing) that they won’t call a loan for simply transferring a property into your own LLC. Provided you continue to make payments. 

And this is probably the key point. As long as you are making payments on your loans, you need to ask yourself, “Why should the bank care if I transferred the property to an LLC?” The answer is, they probably wouldn’t care and they would have no reason to call the loan. 

Fannie Mae and Freddie Mac Now Allow LLC Transfers Without Triggering the Due on Sale Clause

Yes!

Fannie Mae published new guidelines for lenders on November 8, 2017 that allow transfers to LLCs! Here is the exact language:

Fannie Mae Guidelines (Effective November 2017)

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 a) the mortgage loan was purchased or securitized by Fannie Mae on or after June 1, 2016, and b) 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).

This means that as long as the loan was obtained on or after June 1, 2016 and the LLC you transfer it to is controlled by you, the borrower, then the lender must allow the transfer to occur without triggering the due on sale clause. 

Freddie Mac Guidelines: Similar Protections

How about Freddie Mac? Well they followed suit and adopted similar guidelines. Here is the exact language:

In situations where all of the following conditions are met, Freddie Mac will permit a Transfer of Ownership of the Mortgaged Premises: The transfer is to a limited liability company (LLC) or limited partnership (LP), provided that:

The managing member/general partner of the LLC/LP is the original Borrower. If there are multiple Borrowers, all of them must be members/partners of the LLC/LP, and at least one of them must be a managing member/general partner. If the transfer results in a permitted change of occupancy type to an investment property, such change must not violate the Security Instrument (e.g., the 12-month occupancy requirement for a Primary Residence), and The Servicer notifies the original owner or natural person that the Mortgaged Premises transferred to an LLC/LP must be transferred back to the original owner or natural person prior to any subsequent refinance or modification application to meet Freddie Mac’s underwriting requirements

One Risk That Remains: Title Insurance When Transferring to an LLC

So this is great news for rental property owners. Hopefully, this will encourage those who have not chosen to protect their assets in an LLC because of fear of the due on sale clause to do so. 

Now, it’s important to note that you still have to worry about potentially losing title insurance when transferring a property into an LLC and for this, check out this article!

Frequently Asked Questions

What is the due on sale clause in a mortgage?

The due on sale clause is language written into most mortgage loan documents that gives the lender the right — but not the obligation — to demand full repayment of the loan balance when ownership of the property is transferred. It exists to protect the bank, since they evaluated the original borrower’s creditworthiness when issuing the loan.

Does transferring a rental property to an LLC trigger the due on sale clause?

It may, depending on when your loan was originated. However, Fannie Mae guidelines published in November 2017 explicitly allow transfers to LLCs for loans purchased or securitized on or after June 1, 2016 — as long as the LLC is controlled by the original borrower. Freddie Mac adopted similar guidelines. For loans originated before June 2016, the risk exists but is generally considered low in practice.

Will my bank actually call my loan if I transfer property to an LLC?

In practice, this is rare. Anecdotal evidence from thousands of investors suggests banks very rarely call loans solely because of an LLC transfer. As long as you continue making payments, most lenders have little incentive to call the loan. Some lenders have even confirmed informally they won’t call loans for owner-controlled LLC transfers — though these assurances are typically not provided in writing.

What are the Fannie Mae rules for transferring a property to an LLC?

Fannie Mae allows LLC transfers without triggering the due on sale clause if: (1) the loan was purchased or securitized by Fannie Mae on or after June 1, 2016, and (2) the LLC is controlled by the original borrower or the original borrower owns a majority interest in it. If these conditions are met, the servicer must allow the transfer.

What are the Freddie Mac rules for transferring a property to an LLC?

Freddie Mac permits transfers to an LLC or limited partnership (LP) if the managing member or general partner is the original borrower, all borrowers are members/partners of the LLC/LP, and if the property type changes to an investment property, the security instrument is not violated. Importantly, Freddie Mac requires the property to be transferred back to the original borrower before any subsequent refinance or loan modification.

Does transferring a property to an LLC affect my title insurance?

Yes — this is a separate and important risk. When you quitclaim a property into an LLC, your existing title insurance policy may not automatically extend to the LLC. If a title issue arises after the transfer, your coverage may not apply. It’s important to consult with a real estate attorney and review your title insurance policy before making any transfer.