Who is Liable for the Satisfaction of the Mortgage Debt Pursuant to Deed of Gift when Grantor Dies - Estate of Grantor or Beneficiary?

Question

In a situation where:

1. John takes out a mortgage on a house at 55 Main Street by himself (i.e., only John appears on the mortgage).
2. John puts Mike (one of his grandchildren) on a Deed of Gift for the house so that it transfers to him upon death.
3. John dies while still owing 80% of the mortgage.

Does the estate of John have an obligation to pay off the mortgage on 55 Main Street and give the house to Mike?

Answer 1

Whether or not the estate has an obligation to pay the mortgage is really dependent on the terms of the estate plan and the solvency of the estate. The fact that someone is on the deed to a property (whether a deed of gift or a transfer on death instrument) that automatically passes upon death of the original owner to a relative has little or nothing, really, to do with the estate plan. While it may have been part of the person's ultimate plan for the disposal of their assets in life and at death, that is different than being part of the actual estate plan, which deals with the disposition of assets upon death, setting out the wishes of the deceased as it pertains to all property.

There are lots of people who end up in this position, even though the original person on the deed did not intend to purchase or leave the other any property. It happens a lot when say a child does not have adequate credit to secure a mortgage to buy a home, but has the money to pay a mortgage. So, in that scenario usually a parent or grandparent will put the mortgage in their name (the other will live there and pay the mortgage) and then in the event the "helper" dies, they have it pass to the other at death, either thru a "TOD" or a "joint tenancy", so that in the event they die intestate, or if the will is challenged, there will be no question who owns the house...the equity in it, anyway. It (the instrument) is its own separate entity, not subject to the will except to the extent the deceased makes it subject (I'm getting to that part). Like a life insurance policy, that pays on death but is not subject to any terms of the will, it can stand alone since deed is its own instrument, separate from any wills or trusts.

Under federal law, the mortgage must be allowed to remain in effect without changes when it passes from one person to another because of a death. This negates any due-on-sale clause in the mortgage.

Who pays for the remainder of what is owed, however, generally depends on the deceased's will.

The will might stipulate, for example, that the heir receive the home, free and clear, with the estate to pay all monies due. In this case, the executor will either use liquid assets, or sell other non-liquid assets in the estate to pay off the mortgage.

Other times, it will say that the heir get the equity, plus X amount of dollars, which the heir can put toward the home's mortgage or not.

If the will is silent on the issue, it is the responsibility of the heir/person to whom the property transfers (they needn't even be an heir) to pay the mortgage upon its normal term due, or sell the property to satisfy the debt. In the event the property is worth less than the remaining mortgage, the bank will usually take the house in "deed in lieu of foreclosure" rather than seek overage from the estate.

Answer 2

It is worthwhile I think to see how this works in a different jurisdiction.

In Australia all land titles are based on the Torrens principle of registration, that is, the information held by the registrar in each state or territory is definitive and the state is responsible for any errors that it makes in failing to keep the title correct.

This principle extends to encumbrances like easements and, relevantly, mortgages. A mortgagee must register its mortgage with the registrar which then appears on the title; if it doesn't then it has no claim on the property.

Applying your circumstances:

• John appears as the owner on the title.
• The mortgagee also appears on the title.
• On John's death:
  • John's estate owes the mortgagee money and is still bound by the terms of the loan
  • the mortgagee has a mortgage on the property
  • Mike can register as the new owner; the property is still encumbered by the mortgage.
• in Australia there are no gift or inheritance taxes to cloud the issue but there are capital gains taxes if the property was not John's primary place of residence, these would be assessed on market value if the property was a gift; these would be debts owed by the estate - they do not attach to the property.

Worth noting that, unlike the US, loans attach to the borrower and are mortgage backed, the loan is not directly linked to the property. If after liquidation, the mortgagee is still in the hole, the borrower is still liable to pay the balance of the debt. In the US, negative equity is a problem for the bank, in Australia it is a problem for the owner. So, the loan is owed by the estate; Mike is not obliged to pay the loan. However, if someone doesn't pay it the mortgage will sell Mike's property.

What happens next is down to circumstances and negotiation:

1. If the estate is solvent then the executor will seek probate and when granted will pay out the mortgagee. They will be removed from the title and Mike can then have the title transferred. This is the happy circumstance.
2. If the estate is insolvent then the executor will seek probate and when granted will pay out what it can to the mortgagee. At this point, Mike can either pay the difference (either with his own money or from another (or the same) mortgagee) and take ownership of the property or he can allow the mortgagee to foreclose and take whatever is left (if anything) after the mortgagee liquidates it. This is the not so happy circumstance.