Acceleration is a word we generally associate with speed. You hit the accelerator of your car and take off, adrenaline flowing, heart pumping, as you start flying down the open road.
An acceleration clause in real estate may also get your adrenaline flowing and heart pumping, but for different reasons.
So what is this acceleration clause real estate? At its most basic level, it’s a part of your mortgage that allows your lender to call in the entirety of the loan. Unlike amortization in real estate, that means you have to pay everything now. Thankfully, there’s a bit more complexity and lenders can’t just trigger an acceleration clause on a whim. Let’s look at some of the details of how mortgage acceleration clauses in real estate work.
How does an acceleration clause work?
To understand how acceleration clauses work, let’s start by looking at how a mortgage works. When you get a mortgage, there’s more to it than simply walking into a bank and leaving with a large sum of money that you promise to pay back. Instead, you and your lender have to agree to a number of terms detailed in a mortgage contract before you can take out the mortgage loan.
These all exist in your promissory note, which outlines how the loan will work. In a promissory note, you might find:
The date the loan is issued.
The amount of the loan.
The terms for how the loan will be repaid.
The interest rate that will be accrued on the loan.
An outline of any collateral being used to secure the loan.
Borrower information and lender’s information.
Borrower signature and lender’s signature.
That’s a lot of information and, in your rush to secure your mortgage, you may be focused solely on the amount of the loan, the length of time you have to pay it back, and the interest payment. These are all important elements, but there’s more you need to pay attention to in the terms of the loan because it’s when these terms are broken that your lender can invoke the acceleration clause and demand repayment of the loan.
Do all loans have an acceleration clause?
In theory, a loan doesn’t have to have an acceleration clause. In practice, when you’re dealing with loans the size of your typical mortgage you can expect to find one. It’s a standard way lenders use to mitigate their risk from home buyers. However, the good news is that there are many reasons lenders will avoid actually using this clause (which we’ll get into a little later).
What might trigger an acceleration clause?
So what could cause an acceleration clause to be triggered? As we mentioned earlier, all of the reasons for triggering an acceleration clause will be spelled out in the promissory note of your mortgage, but there are certain standard scenarios you can expect:
Missed payments – The most common reason that may trigger the use of an acceleration clause is if you stop making payments on your loan. A missed payment or two or falling slightly behind is normally something you can work out with your lender (often for a fee), but if you continually miss payments, your lender may decide you are no longer reliable and will call in the remainder of the loan.
Insurance issues – Any lender will require that you purchase homeowners insurance. This protects them (and you) from any damage that may happen to the home. If you cancel your homeowner’s insurance, your lender may purchase insurance for you and force you to pay as part of the loan. They may also trigger their acceleration clause and call the loan in.
Taxes – Homeownership is a big step in wealth building for many people. Building equity can be a huge source of wealth in the future. In the present though, you may not feel that way because in addition to paying off your mortgage you will be charged property taxes. This may make your lender trigger their acceleration clause before the government puts a lien on the house.
Going bankrupt – Filing for bankruptcy can allow you to get out from under much of your debt. For lenders, this means it may become much harder to get you to pay off a loan. Triggering an acceleration clause is a step they can take to ensure they get repaid.
Sale of your house – Your lender made the loan agreement with you. That means if you decide to sell, they won’t just transfer the mortgage to the new owners, they’ll expect you to pay. This is called due-on-sale and means you have to pay off your loan when you sell your house.
Reasons lenders won’t trigger the clause
So does all this mean that you need to be constantly on edge, worried that your lender will trigger their acceleration clause at any minor infraction and you’ll lose your house?
While acceleration clauses are to be taken seriously, there are compelling reasons your bank will try to avoid exercising this clause. They include:
Loss of interest – This doesn’t mean that if you simply dodge your lender they will become disinterested in collecting their money. Instead, it literally means they will lose out on all future interest accrual. Loaning money is profitable because of the interest payments. If your lender triggers the acceleration clause, you’re only responsible for the interest up until that point. That means no future interest, which means less profit.
Can’t repay – Remember the saying, “you can’t get blood from a stone?” In this case, you’re the stone and money is the blood. Triggering the acceleration clause means you have to pay, but if you can’t, then what? The next step would be foreclosure, which leads us to another reason your lender will want to avoid using the clause.
Foreclosure complications – Your bank is in the business of lending money, not selling houses. Sure they can foreclose on you, but that’s often a costly process in itself and then they own a house that they don’t want. It’s often easier to simply work with you on refinancing if they still think you may be able to pay.
Ongoing relationship – Often your lender is more than just your lender. They’re your bank. You may have checking and savings accounts with them. You may have investments. You may have credit cards. If they’ve built a relationship with you over the years, they’ll likely want to work with you to keep that relationship going if possible.
How to avoid an acceleration clause
While you likely won’t be able to take out a mortgage that doesn’t include an acceleration clause, there are steps you can take to ensure that your lender doesn’t use the clause. They include:
Pay on time – The easiest way to make sure your lender doesn’t call in your loan is to continue making all your required payments on time. Of course, this can be easier said than done. The first step in making sure you will be able to make your payment is to be realistic about how much house you can afford.
Of course, what we want and what we can afford aren’t always the same thing. That’s why working with the best real estate agents from Berkshire Hathaway HomeServices California Properties is so important. We’ll be sure you get the most house possible within your budget.
Details – Know the terms of your mortgage and be sure to follow them. You don’t want to get into trouble due to carelessness or ignorance, so making sure you have a thorough understanding of your terms is important.
Refinance – Being realistic about what you can ford is a good start, but we can’t always foresee what life has in store for us. If your circumstances change, you may need to look into options to refinance your home. Utilizing our home financing tools can help you get a handle on your options.
Downsize – No one wants to be forced out of their home. If your circumstances change to a point where you may not be able to continue paying your mortgage, it may be time to look into downsizing. That way you maintain control over your situation and aren’t forced into making decisions by your lender.
What happens when the clause is triggered?
Despite all the reasons your lender has to try to work things out with you instead of triggering the acceleration clause, there are still times when they may decide to call in your loan. If this happens, you will receive a letter in the mail. This letter will inform you that your lender is using the acceleration clause. It will also include other important information:
The reason the clause was triggered.
The amount of money you owe, including the interest that has accrued.
Contact information for your lender.
A due date for when payment must be received.
The next steps for you may be determined by what state you live in. While you can always talk to your lender and see what options they will give you for repayment, certain states also have protections that can help keep you in your house.
For instance, in California, you have time (up to five days before your house is sold into foreclosure) to repay what you owe and stay in your house. This is known as mortgage reinstatement. To reinstate your mortgage, you will need to pay:
All delinquent payments.
All delinquent interest payments.
Some or all of the costs your lender has accrued during the foreclosure process.
There are also assistance programs in many states that may help you pay back what you owe. As both these programs and the terms for reinstatement vary from state to state, it’s worth looking into your state’s laws to know what options are available to you.
Acceleration vs. escalation
Another clause that often gets confused for an acceleration clause is an escalation clause. But while the names may be similar, the two clauses are very different. While an acceleration clause is a tool used by lenders to mitigate the risk of a loan, an escalation clause is used by buyers when trying to secure a winning bid on a property.
With an escalation clause, buyers agree that they will up their bid on a property if another, higher offer is made. This can be useful in a few scenarios:
Seller’s market – A seller’s market means that demand is outpacing supply. That translates to heightened competition if you’re bidding on a house. An escalation clause could ensure that you don’t get outbid.
Strong desire – Maybe you’ve absolutely fallen in love with a house. That doesn’t mean you want to overpay just to secure it. By including an escalation clause you can show your seriousness while still providing a bid more in line with what you feel the house is worth.
Appraisal gap – With an escalation clause, you need to remember that you’re likely using it to make your offer stand out against others (if there will be no other offers, there’s no need for an escalation clause). This means covering any appraisal gap that may occur after your bid is accepted since you’re likely buying at a high price.
There are also scenarios where an escalation clause will not be appropriate, like if you can’t reasonably extend your offer because of your budget. Whether an escalation clause is right for you is something you should discuss with your agent before submitting an offer.
Regardless, do not confuse an acceleration clause with an escalation clause. They are completely different.
Understanding home buying with Berkshire Hathaway
Buying a house is complicated. Whether it’s fully understanding your mortgage or fully understanding how to make the most attractive bid to a seller, there are terms and ways of going about things that you may not be familiar with. That’s why there’s no substitute for having a qualified, dedicated real estate agent working with you and guiding you through the process. If you’re also wondering “what is a bridge loan?,” or “what is a contingency sale?” we’ve got you covered!
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