The Reason Due-On-Sale Clauses Exist

In at least one Canadian province, all mortgages have been considered assumable. In Alberta, the common "due on sale" clause included in most mortgages was considered void until a recent Supreme Court of Canada ruling was issued stating that restraints against alienation must be harmonized with laws protecting contracts. In general, the remaining provinces and territories require a seller to get consent from the bank before arranging for the sale and assumption of the mortgage on a property.

Reasoning Behind Due-on-sale Clauses

The primary reason lenders include due-on-sale clauses is to protect their investment. A lender needs to know that a mortgage is going to be paid and approximately when it will be paid off.

In the last several years, Canadian news sites, such as GlobeTV have reported on to a disturbing practice that involves outright fraud. A qualified borrower approaches a lender for a mortgage. The borrower obtains approval and the purchase of the property is concluded. Then the borrower arranges for the party who really wanted to make the purchase to assume the mortgage. Lenders have reduced the availability of assumable mortgages in response.

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The due-on-sale clause protects the lender from someone who does not have adequate income or poor credit from forcing the lender into foreclosure and all of its costs. When you do find a mortgage that is assumable, it will almost always require that the person assuming the mortgage is able to pass through the lender's credit approval process.

Lender Reticence

Lenders may be reticent to issue assumable mortgages because they can lead to negative spread between the cost of funds and interest income when interest rates are climbing. Lenders do not want to hold on to mortgages with low returns. If a borrower is able to transfer ownership to a qualifying buyer, then the lender has lost an opportunity to increase the income production of his / her investment.

Lenders tend to be more amenable to open mortgages when interest rates are falling, as the assumed mortgage may have a higher rate of return than the lender will earn on a new mortgage.

Legal Considerations in Canadian Real Estate Transactions

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The Supreme Court of Canada has ruled that there are three situations in which due-on-sale clauses do not apply. When two Canadians own a property jointly and one dies, the survivor takes full ownership of the property. The lender can not demand settlement of the mortgage. This is known as joint tenancy. Tenants by entirety is similar, except that it applies only to married couples.

The third situation involves bequeath of a property to a relative through a will, trust or intestacy. In this case, the mortgage continues as long as the person inheriting the property assumes the mortgage payments.

In all other situations, the mortgage must stipulate that the mortgage is assumable (with the current exception of Alberta) and under what circumstances.