YOUR MORTGAGE : Loan Obligation Continues Despite Divorce

QUESTION: My husband and I are in the process of obtaining a divorce. Our three children are still under 18, and my husband has agreed to let me buy out his share of the house on the condition that he can be relieved from the obligations of our original loan. There is a 13-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 my husband to be relieved from responsibility on the mortgage note, although they will not object if the title is transferred exclusively to my name.

What do you recommend? I do not want to have to sell the house at this point in my life.

ANSWER: 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 rationale makes sense. When you and your husband originally made application for your mortgage loan, both of you agreed to be jointly and severally responsible for the repayment of that loan.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 you. However, the lender is not obligated to remove your husband from the loan, as long as that loan stays on the record.

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 husband 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 7.5% 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 dwellings, of a marriage, a legal separation agreement or from an incidental 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 your husband transfers his interest to you, the lender does not have to relieve him from his responsibilities and obligations under the original note that he signed when he bought the property.

There are two 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.

Thus, the only other solution is for you to obtain a new mortgage loan (i.e., refinance) and get the new loan in your name only.

If you can qualify on your own for a new loan, I would recommend that you refinance. Perhaps you can persuade your husband to assume some or all of the closing costs involved in the refinancing process.

If, on the other hand, you are unable to qualify for a refinance loan, you should go back to your husband and suggest that he allow the property to be transferred to your name only, recognizing nevertheless that he will still be potentially liable on the original loan.

What are the consequences to your husband?

Oversimplified, I can foresee two potential problems.

First, if you cannot make the monthly payments on your 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 husband for what is known as a deficiency judgment. This could also cause potential credit problems for your husband because of the foreclosure.

Second, and perhaps of greater concern, your husband may have trouble qualifying for another mortgage loan in his own name because of the potential liability on the current mortgage. However, my experience has been that many lenders will waive this problem, especially if your husband has the financial ability to qualify for another new loan.

These are complex issues that deserve full and open communication between you and hour husband. 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.