Receiving a letter from your lender telling you to pay the entire home equity loan you owe in the coming days before the completion of the intended payment period can be nerve-wracking, and it may also seem unfair.
However, they have a legal right to do so by invoking the acceleration clause in the loan contract. This allows them to get an "accelerated" payment if you breach certain conditions. For example, missing many payments. Do you have questions about what's an acceleration clause in a contract? This piece is a step-by-step guide to what it entails and alternative solutions.
An acceleration clause is a provision in a loan agreement that outlines various conditions you have to meet. Failure to meet these results in the lender demanding full payment of the loan before its scheduled time. It's a standard provision in home equity loan agreements. Lenders include it to avoid huge losses if a borrower defaults.
For example, if you take a loan and default on installments several times, the lender may take this as an inability to pay. Thus, invoking the clause. That allows them to foreclose and seize the property for resale to recover the balance. Besides defaulted payments, here are some other issues that a lender may set as conditions for triggering the acceleration clause.
Lenders require you to continue paying premiums for your home insurance to enable repairs and maintain the house's value during the service period of a home equity loan. It assures them they can still recover their money based on the initial calculated value if a borrower defaults. Failure to pay for your home insurance risks reducing the property's value and making it unsellable. Hence, lenders can trigger the acceleration clause best on that factor to mitigate the problem before it's too late.
Another condition that lenders impose as a trigger for the acceleration clause is an intention to sell the property to a third party. In most cases, they include the due-on-sale or alienation clause, which provides that they should recover the principal amount of the loan if a borrower decides to sell the house. You have to notify the lender of the intention to transfer the property and agree to pay the loan from the proceeds of the sale. Failure to do that results in a breach of contract, and they may seek an injunction preventing the transfer.
Debt covenants are home equity loan requirements that creditors impose. They create rules of operations for borrowers regarding the property attached to the loan. For example, since one of the advantages of home equity loans is low and fixed interest rates, it allows borrowers to take loans from other lenders. However, lenders prevent this by including a debt covenant that restricts additional borrowing using the same house as security. The rationale behind this clause is that the more loans you have, the greater the chances of defaulting. Thus, placing the risk on the lender's part. A breach of the debt covenant can trigger the acceleration clause.
Lenders understand that other unavoidable circumstances could have resulted in payment defaults, e.g., long-term medical treatment. Before they invoke the acceleration clause, they explain to you (usually through mail or letter) the reasons for acceleration, your loan balance, and any unpaid interests and wait for your response. They may offer mutually beneficial solutions to avoid acceleration depending on the prevailing circumstances. The first option is usually loan modification, i.e., readjusting monthly installments and interests to make the loan payable. Forbearance is another option, and it involves putting a temporary stop to the payment of the loan to allow you to recover from a financial problem and build up savings. A quick sale can be the last resort to enable you to recover money owed in debts.
