Let’s face it. If a seller is willing to sell a property to a buyer subject to an existing mortgage (which will remain on their credit), they probably have some financial problems they are trying to solve. And the unaffordable mortgage may not be the only thing troubling them. The prospect of that financially-plagued seller filing for bankruptcy at some point in the future must be considered by a subject-to purchaser.
The third risk I identified in my 2022 article about subject-to transactions was the seller filing for protection under the bankruptcy code. But why would a seller BK affect the buyer? The property has already been sold and therefore it’s not part of the debtor’s BK estate.
Unfortunately that doesn’t matter.
When the seller files for bankruptcy, he or she will have to inform the lender holding the mortgage note. In order to protect its interests, the lender will file as a secured creditor in the bankruptcy case. It is at this point that the lender will almost certainly discover that the property has been transferred out of the seller’s name… the liability shows on the debtor’s schedules but the property is not shown as an asset. The restriction on alienation (due on sale clause) has obviously been violated, and when faced with that scenario most lenders will choose to foreclose for the reasons pointed out in the prior post. Because the borrower covenants in the mortgage / deed of trust have been breached, the lender has the right (and perhaps the obligation, depending upon the lender’s circumstances) to pursue foreclosure.
The underlying issue common to all risks associated with sub-to is the buyer needs to be able to pay off the mortgage upon demand. And that demand can happen at any time… not always because of something the buyer did wrong.