What is a defeasance clause?

A defeasance clause is a provision in a mortgage agreement that gives the borrower ownership of the property when they’ve paid back their home loan. This clause is an essential component of the mortgage contract in certain states.

Key insights

• A defeasance clause protects the mortgage borrower, granting them ownership of the property once they’ve paid back the loan.
• If you live in a state that follows title theory for mortgages, you’re likely to see this kind of clause in your agreement.
• The defeasance clause nullifies the mortgage contract once the last payment has been made.

Defeasance clause definition

In a mortgage agreement, a defeasance clause states that the property becomes the borrower’s once they’ve paid off the loan in full (satisfied the terms of the agreement). You may or may not see this clause within your contract, depending on your state.

The word defeasance is a legal term meaning a contract is null and void if a condition is fulfilled. In a defeasance clause, the condition is the borrower paying off their loan completely — after that, they are no longer obligated to continue making payments to gain ownership of the property. At this point, the terms of the agreement have been satisfied and the contract is void.

Defeasance clause in a mortgage

Like any legal document, a mortgage agreement has to detail certain outcomes if or when a given situation occurs. It allows both the lender (called a mortgagee) and the borrower (a mortgagor) the right to seek legal remedy if those conditions are not met. For example, a mortgage agreement outlines when payments are due and what happens if the borrower misses a payment (e.g., a late fee will be charged).

A defeasance clause gives the borrower ownership claim of the property once they’ve paid off their mortgage loan. This outcome must be documented legally, even if it seems obvious. Each state has its own mortgage law theory — lien theory, title theory or intermediate theory — that determines whether a defeasance clause is necessary.

Lien states

Many states use the lien theory, which states that once an individual purchases a property, they have an ownership claim on it. However, if they use a mortgage loan to purchase it, the bank places a lien on the property until the loan is paid off. A mortgage lien is a mortgage lender’s legal right to take possession of your home if you don’t pay back your debt (a foreclosure process).

In a lien state, you’ll likely have to sign a security deed and your mortgage contract at closing. The security deed gives the lender the property’s legal title. You, the borrower, receive equitable title, which lets you live in the home while you pay off the loan.

In a foreclosure case, the lender may not have to go the judicial route (through the courts) to sell the property. However, it is more difficult to foreclose on borrowers in lien states since they hold equitable title.

Defeasance clauses are generally used in title states, where the bank holds title to the property until the loan is paid off.

Title states

On the other hand, about half of U.S. states hold some form of the title theory, which means the lender holds the home's title (or the ownership claim) until the borrower has paid off the loan.

A mortgage contract typically includes a defeasance clause in title states so the borrower gets full and clear ownership of the home once they pay off the loan.

Foreclosures in title states must go through a judicial process, which can be costly and time-consuming for both the lender and the borrower.

Intermediate states

The intermediate theory is a sort of middle ground. Intermediate states essentially employ lien theory unless the borrower defaults, in which case title law kicks in and title goes to the lender.

Secured vs. unsecured loans

Loans can either be secured (with collateral requirements) or unsecured (no collateral requirements). Collateral is an asset of value (like a house or a car) that the lender can sell to recover their losses should the borrower stop making payments on the loan. 

Mortgage loans are secured because they are backed by collateral (the property itself). If the borrower defaults on the loan, the lender can take legal possession of the property and sell it.

Bottom line

A defeasance clause protects mortgage borrowers in title states. It lets them claim full ownership of the property (transferred from the lender) once the loan repayment condition has been met. This contract provision also makes the mortgage agreement null and void when the loan has been paid in full.

While a defeasance clause isn’t necessary in every state, it’s still important to read your mortgage agreement for all of the terms and conditions before you sign. Your real estate attorney can advise you of the provisions in place for you to assume full ownership rights of the home when the loan has been paid off.