Assuming a mortgage means that the buyer of a home is able to take over the seller’s existing mortgage. When mortgage assumption is possible, it may help a buyer score a lower interest rate and save money in other ways as well. In times when interest rates are headed upward, an assumable mortgage can be quite a windfall.
But, reality-check time: Mortgages are only assumable in certain situations, and there are pros and cons to consider. If you’re home shopping and want to consider this option, read on to learn more, including:
• What is an assumable mortgage?
• How do I know if a mortgage is assumable?
• What are the benefits of an assumable home loan?
• What are the downsides of an assumable mortgage?
What Is an Assumable Mortgage?
The meaning of an assumable mortgage is that the buyer, when purchasing a home, takes over the existing mortgage held by the seller. This means the buyer assumes responsibility for the loan’s outstanding balance, its interest rate, and making payments for the entire loan term.
This can be an appealing option if, say, the seller’s mortgage was taken out with a considerably lower interest rate than is currently available. In this scenario, the buyer could stand to save thousands over the life of the mortgage loan.
However, a buyer may also need to finance the amount of equity the seller has in the home.
It’s important to note that not all mortgages are assumable. For those that are, it’s recommended that all parties know in advance what obligations they have when they agree to a mortgage assumption, just as with any other financial agreement.
What Types of Loans Are Assumable?
Typically, home loans that operate outside the federal government’s mortgage loan environment, such as conventional 30-year mortgages issued by private lenders, are not assumable. (How do you know if a conventional mortgage is assumable? It will likely be an adjustable-rate loan, and the seller will have to check with their lender to be sure.)
Certain kinds of mortgages that are insured by the government and issued by private lenders are, however, assumable. A seller usually must obtain lender approval for the assumption, or in the case of USDA loans, agency approval. And the buyer must qualify. These loans include:
• FHA loans: The Federal Housing Administration (FHA) insures these mortgages, which are popular with first-time homebuyers. With a minimum 3.5% down payment for borrowers with a credit score of 580 or higher, FHA mortgages are assumable.
• VA loans: Home loans guaranteed by the Department of Veterans Affairs (VA) are also assumable, and — perhaps surprisingly — the buyer does not have to be a veteran or in the military. Note: The seller of these loans may remain responsible for the mortgage if the buyer defaults.
• USDA loans: Loans guaranteed by the Department of Agriculture (USDA) are assumable only if the current owner is up to date on payments.
One last note about the options above: While assumable mortgages can be part of a wrap-around mortgage, they are not one and the same.
When a mortgage is assumed, the buyer pays the lender every month. With a wrap-around mortgage, which is a kind of owner-financing, the buyer pays the seller.
How to Get an Assumable Mortgage Loan
Here are some points to consider if you are contemplating assuming a mortgage:
• First, confirm that the loan is assumable. For most conventional mortgages, assumption is not an option.
• If assumption is possible, the homebuyer must apply for the assumable mortgage and be vetted for creditworthiness and the ability to meet all the contractual requirements. It’s vital that the buyer show that they have the financial assets needed to qualify for the loan.
• Recognize that the buyer will need to make up any difference between the amount owed and the home’s current value. This means that if the seller of a $300,000 home has a $100,000 mortgage that’s assumable, the buyer would need to be able to put down $200,000 to assume that loan. Obviously, this scenario could present a significant financial hurdle for many prospective homebuyers.
• If the mortgage lender or agency signs off on the deal, the property title goes to the homebuyer, who starts making monthly mortgage payments to the lender.
• If the lender denies the application, the home seller must move on, and the buyer would likely resume shopping elsewhere.
Recommended: How to Buy a Multi-Family Property
Why Do Assumable Mortgages Exist?
Actually landing an assumable debt can be beneficial for both a buyer and seller, but the mortgage lending industry may not make it easy to cut a deal. Why? Because as history attests, mortgage lenders may lose money on assumable mortgages.
In the late 1970s and early 1980s, when interest rates were at the highest levels in modern history, assumable mortgage deals were attractive to buyers who could take over a seller’s mortgage at the original loan interest rate. In many cases, this would yield a bargain vs. the then-current rate for a new mortgage. (How high did rates go? In October 1981, 30-year fixed-rate mortgages hit an eye-watering peak of 18.45%.)
Mortgage companies, however, could see that they would lose money if home buyers chose a lower-rate assumable loan over a higher-rate new mortgage loan. That’s one reason mortgage companies began inserting “due on sale” clauses, which mandated full repayment of the loan for most home transactions.
As the FHA and VA began issuing more mortgage loans to homebuyers, they offered more relaxed rules allowing assumption transactions. Mortgages could transfer to the homebuyer as long as they demonstrated the ability to repay the remaining home loan balance, usually after a thorough credit check.
How Do Assumable Mortgages Work?
With an assumable mortgage, the buyer will become the holder of the mortgage originally taken out by the seller. The buyer, as mentioned above, may have to clear certain qualification hurdles to do so.
It’s also important to note that, as briefly mentioned above, the homebuyer must make up any difference between the amount owed on the mortgage and the property’s current value. That could mean the buyer pays cash to make up the difference or takes out a second mortgage.
An example: Say a house is valued at $350,000, and the home seller has a $225,000 balance on the home’s original mortgage. Under the terms of most assumable mortgage loans, the homebuyer would need to deliver $125,000 at closing to cover the difference between the original mortgage and the current estimated value of the home, usually determined by an appraisal.
Another important aspect of how assumable mortgage loans work are the two models possible: a simple mortgage assumption or a novation-based mortgage assumption.
In a typical simple mortgage assumption, the buyer and seller agree to engage in a private transaction.
• This means that the mortgage lender is not necessarily aware of the transfer of the mortgage and therefore the new buyer does not go through the underwriting process with the lender.
• The home seller usually just transfers the title of the property to the buyer after the buyer agrees to take over the remaining mortgage payments.
• If the buyer misses monthly payments or defaults on the original mortgage loan, the lender could hold both parties responsible for the debt, and the credit scores of both buyer and seller could be significantly damaged if the debt isn’t repaid. In this scenario, an assumable mortgage home for sale could wind up being problematic for both parties.
Unlike a simple mortgage assumption, where mortgage underwriting usually isn’t directly involved, an assumption with novation means the lender is involved.
• The lender vets the buyer and agrees to the loan transfer.
• This means the buyer agrees to assume total responsibility for the existing mortgage debt and remaining payments.
• Under those terms, the original mortgage lender releases the home seller from liability for the remaining mortgage loan debt. The documentation, such as a deed of trust (if used), will be in the buyer’s name alone.
Pros and Cons of Assumable Mortgages
Assumable mortgage loans have upsides and downsides.
Upsides of an Assumable Mortgage
First, consider these pluses:
• A lower rate may be possible. The buyer may save significant money on the loan if the original mortgage’s interest rate is lower than current rates.
• Closing costs are curbed. The buyer might also benefit because closing costs are minimized in private home sale transactions between a buyer and a seller.
• No appraisal is needed. With no need to get a new mortgage on the property, a home appraisal isn’t required for a mortgage assumption, which can save time and money. The buyer could request an appraisal as part of the general home purchase agreement, however.
Downsides of an Assumable Mortgage
Now, the minuses:
• Upfront cash may be required. To meet the terms of an assumable mortgage, the buyer may need to have a substantial amount of upfront cash or take out a second mortgage to close the deal. This usually occurs when the property’s value is greater than the mortgage balance. The seller has perhaps built up considerable equity over the years.
• Second mortgages can be problematic. Second mortgages aren’t always easy to obtain, as mortgage lenders may be reluctant to issue a second home loan when the original mortgage still has a balance due. And a second mortgage probably carries closing costs, meaning the seller needs to shell out more cash.
• The property may be in distress. In some cases, the home seller may be eager to get out of a home that is proving to be too expensive for their budget. Simply put, they might be behind on payments. In that event, the mortgage lender may require the mortgage to be made current (meaning getting up to date on payments) before it will approve an assumable mortgage.
• FHA loans carry an add-on. If the home seller put down less than 10% of the home’s cost when getting an FHA loan, there will be a mortgage insurance premium for the entire loan term. This would add to the buyer’s monthly costs.
Here’s how this intel stacks up in chart form:
|Pros of Assuming a Mortgage||Cons of Assuming a Mortgage|
|Possibility of a lower interest rate than market rate, saving money over the life of the loan||Buyer must make up difference if home value exceeds mortgage balance|
|Reduced closing costs||Home may be in distress|
|Home appraisal not necessary||FHA loans usually carry mortgage insurance premium|
Examples of Assumable Mortgages
If you’re hoping to find an assumable mortgage, it will most likely be a government-insured or -issued loan, as mentioned above; perhaps one offered as a first-time homebuyer program. Here’s a bit more about these mortgages and how a loan assumption would work:
• Federal Housing Authority (FHA) loans: These government loans, which are insured by the FHA, may be assumable. Both parties involved in a mortgage assumption, however, must qualify in certain ways. For instance, the seller must have been living in the home as a primary residence for a period of time, and the buyer needs to be approved via the usual FHA loan application process.
• Veterans Affairs (VA) loans: If a seller has a loan backed by the VA, it may indeed be assumable. A buyer who wants to take over the loan can apply for a VA loan assumption and doesn’t need to be a current or former member of the military service.
• U.S. Department of Agriculture (USDA) loans: To assume a USDA loan on a rural property, a buyer will have to show an adequate income and credit to be approved by the USDA.
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Who Are Assumable Mortgages For?
Assuming a mortgage can be a good option for those who are property shopping in a time of rising interest rates and would like to take over the seller’s lower-rate loan. This can help save money, and it can also spare the buyer some of the time, energy, and money needed to apply for a new loan.
In addition, an assumable mortgage may work best for buyers with access to cash, as they will probably need to cover the difference between the mortgage amount and the value of the home they are buying.
Who Are Assumable Mortgages Not For?
Those purchasing a home that currently has a conventional mortgage will most likely not be able to take over that loan.
Additionally, if a mortgage is assumable, it’s important to recognize this scenario: If there’s a considerable gap between the mortgage amount and the property’s value, the buyer needs to bridge that. That means either ponying up a chunk of cash or finding a second mortgage, which may not be financially feasible for some prospective homebuyers.
Assumable home loans are generally difficult to find and to close, and may require the buyer to take on the onerous task of qualifying for a second mortgage. But if the buyer finds that assuming the mortgage will save money over getting a new mortgage (primarily through a lower rate), an assumable mortgage could be a good way to go.
Hunting for a mortgage? SoFi offers home mortgage loans with as little as 3% down for first-time homebuyers, and getting prequalified is quick and easy.
Is it a good idea to assume a mortgage?
Assuming a mortgage can have benefits. If you find an assumable mortgage home for sale, you might be able to take over the seller’s mortgage at a lower rate than what’s currently offered by lenders, thereby saving you money over the life of the loan. Closing costs and schedules might also be leaner. However, mortgage assumption is not always possible, and if it is, you may have to make up the difference between the mortgage amount and the home’s current value.
What is required to assume a mortgage?
To assume a mortgage, the seller must have a loan that allows for assumption. These are usually government-insured or -issued mortgage loans. In addition, you may have to submit credentials to the lender and be approved. You may also have to pay the difference between the mortgage amount and the property’s market value.
How much does it cost to assume a mortgage?
Typically, when you assume a mortgage, you may pay some closing costs, but these could be lower than on a new loan. In addition, there may be a one-time funding fee; for instance, on a VA loan, this amounts to 0.5% of the existing mortgage balance. Last but not least: The buyer is usually liable to pay the difference between the remaining balance on the mortgage and the current value of the home.
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