Q. My wife and I are in the process of obtaining a divorce. Our two children are still under age 18, and I have agreed to let my wife buy out my share of the house on the condition that I will be relieved from my obligations of our original loan. There is a 17 year mortgage left on the house with an interest rate of 7.5%. I checked with the mortgage company, and they have made it clear that they will not permit me to be relieved from responsibility on the mortgage note, although they will not object if the title is transferred exclusively to my wife’s name.
What do you recommend? I do not want my wife to be forced to sell the house, at least until our children are old enough to go to college.
A. This is a very common situation. When a husband and wife divorce, and the parties agree that one of them will own the property, they often forget that there is a lender in the picture who wants to keep both parties responsible while the original loan stays on the books.
Your lender's position makes economic and business sense. When you and your wife originally made application for your mortgage loan, both of you agreed to be jointly and severally responsible for the repayment of that loan. Through no fault of the lender, you are now contemplating a divorce and have agreed that the house would go to your wife. However, the lender is not obligated to remove your name from the loan, as long as that loan stays on the books. The lender wants to be assured that the monthly mortgage payments will be made, and on a timely basis.
Many years ago, lenders took the position that when there was a transfer between a husband and a wife in connection with a divorce, that transfer triggered the "due on sale" clause contained in the mortgage documents. That clause, which has been upheld in many states, basically says that the loan becomes fully due on the sale or transfer of the property.
The purpose of this clause -- from the lender's point of view -- was to prohibit assumptions. In your case, if you and your wife were to sell the property to a third party, in the absence of a "due on sale" clause, that third party could assume the interest rate without paying any points or other assumption fees. This was especially true when interest rates were considerably higher during the 1980s, and lenders did not want those old low interest loans to be assumed by a subsequent purchaser. With the existence of such a "due on sale" clause, the loan cannot automatically be assumed without the lender's permission.
However, in 1982, Congress specifically addressed this "due on sale" clause. A new law made it clear that for most loans, the lender could not enforce such a clause on residential property containing less than five dwelling units when the transfer or sale results from a decree of dissolution of a marriage, a legal separation agreement, or from a property settlement agreement by which the spouse of the borrower becomes an owner of the property. In other words, the lender cannot enforce the "due on sale" clause when the property is being transferred from one spouse to another pursuant to a divorce.
Thus, one of your problems has been solved by this law.
However, as we have discussed, even if the lender cannot enforce the "due on sale" clause when you transfer your interest to your wife, the lender does not have to relieve you from your responsibilities and obligations under the original note that you signed when you bought the property.
There are several solutions. Both of you can sell the property and divide up the proceeds. Under this arrangement, the old lender will be paid off, and both of you will be relieved from liability. However, you have indicated that this is not the route you wish to take.
Another suggestion is that you both agree to maintain the status quo, and while your wife will start to make the mortgage payments, you will remain obligated under that mortgage, but will also remain on title. There may be tax issues for you as a result of this scenario when the property is sold, and you must consult your tax advisors before you make any binding commitment with your wife.
But perhaps the best solution is for you to convey the property to your wife, and if she can qualify on her own, have her obtain a new mortgage (i.e., refinance) in her name only. Interest rates are now considerably lower than your current 7.5 rate, and – regardless of whether you are getting a divorce or not – it would make sense to refinance your loan down to a lower mortgage interest rate.
Perhaps you can make the refinance a little less painful if you agree to pick up some or all of the closing costs involved in the refinancing process.
If, on the other hand, your wife is unable to qualify for a refinance loan, you should seriously consider preserving the status quo. Clearly, you do not want your children to suffer any more than they already are, if they will have to move out of their home.
What are the consequences to you if the original loan stays in place?
Oversimplified, I can foresee two potential problems.
First, if your cannot make the monthly payments on the loan, and if the house is sold at a foreclosure sale for less than the amount owed to the lender, the lender might be able to go after both you and your wife for what is known as a deficiency judgment. This could also cause potential credit problems for you because of the foreclosure.
Second, and perhaps of greater concern, you may have difficulty qualifying for another mortgage loan in your own name because of your potential liability on the current mortgage. However, my experience has been that many lenders will waive this problem, especially if you haves the financial ability to qualify for another new loan.
These are complex issues that deserve full and open communication between you and your wife. Your respective lawyers should attempt to work out these problems, based on all of the facts and all of the financial information available. The decision must not be based on emotional considerations.