Understanding the Power of Defeasance Clauses in Mortgages

Defeasance clauses play a crucial role in mortgage agreements, offering borrowers a lifeline by allowing them to reclaim their property even after defaulting on their mortgage payments. This article delves into the importance of defeasance clauses and provides practical examples to illustrate their function.

What is a Defeasance Clause?

A defeasance clause in a mortgage is a legal provision that permits the borrower to redeem the property after default, usually by settling the entire debt along with any incurred fees. This clause can override provisions that grant the lender ownership of the property upon default, thus safeguarding the borrower’s interests.

How Defeasance Clauses Work

When a borrower defaults on their mortgage, the lender typically has the right to take ownership of the property. However, if the mortgage agreement includes a defeasance clause, the borrower can reclaim their property by fulfilling specific conditions, such as repaying the debt completely and covering any additional costs incurred due to the default.

Practical Example

Consider the following scenario to understand how a defeasance clause functions:

1. The Situation: Imagine Graham has a mortgage with a balloon payment due at the end of the term. Unfortunately, Graham defaults on this balloon payment.

2. The Response: Three days after the default, Graham manages to gather the necessary funds and pays the remaining balance in cash.

3. The Outcome: Thanks to the defeasance clause in her mortgage agreement, Graham can redeem her property. This clause takes precedence over any other provisions that might have granted the lender ownership of the property following the default.

Benefits of Defeasance Clauses

1. Borrower Protection: Defeasance clauses provide borrowers with additional protection, allowing them to salvage their property even after defaulting.
2. Financial Flexibility: These clauses afford borrowers more time and flexibility to arrange their finances and settle the outstanding debt.
3. Lender Assurance: For lenders, a defeasance clause ensures that they will receive the due payment, along with any added fees, within a given timeframe.

Frequently Asked Questions (FAQ)

Q1: What are the conditions a borrower must meet for a defeasance clause to be activated?

A1: Typically, the borrower needs to pay the entire outstanding debt and any additional fees incurred by the lender due to the default.

Q2: How common are defeasance clauses in mortgage agreements?

A2: The inclusion of defeasance clauses varies depending on the lender and the type of mortgage. They are more common in commercial mortgage agreements than residential ones.

Q3: Can a lender refuse the activation of a defeasance clause?

A3: No, if the mortgage agreement includes a defeasance clause and the borrower meets all stipulated conditions, the lender is obliged to honor it.

Q4: What are the consequences if a borrower fails to meet the conditions of a defeasance clause?

A4: If a borrower fails to comply with the conditions set out in the defeasance clause, the lender can proceed with taking ownership of the property as initially outlined in the mortgage agreement.

Related Terms: mortgage default, balloon payment, property redemption, loan agreement.