House hunting is a search for treasure, and buyers must weigh a seemingly infinite number of factors in order to find the right treasure. One such factor might be an assumable mortgage, which some sellers use to lure buyers with a better mortgage deal than they could get otherwise.
What Is An Assumable Mortgage?
An assumable mortgage allows a buyer to take over the seller’s mortgage. Once the assumption is complete, you take over the payments on a monthly basis, and the person you assume the loan from is released from further liability.
If you assume someone’s mortgage, you’re agreeing to take on their debt. Assumable mortgages are most common when the terms currently available to a buyer are less attractive than those previously given to the seller. Assumable mortgages also factor into divorce scenarios when the spouse who gets the house is on the title, but not initially on the loan, for example.
How Does Mortgage Assumption Work?
Mortgage assumption isn’t as seamless as agreeing to take over a seller’s mortgage, because the lender has to approve the new buyer before it will sign off on the assumption. The lender will have to review the buyer’s credit score, credit history, income and debt-to-loan ratio. In addition, sellers must be up to date on their mortgage payments.
Even if a buyer may be deemed creditworthy to take on the payments, mortgage investors (Fannie Mae, Freddie Mac, FHA, VA, etc.) have to approve the assumption.
Assuming the buyer is creditworthy and the lender and investor approve the transfer, the buyer will close on the home just like any other buyer. Then, the seller will ask the lender for a release and walk away from any future liability on the loan. It’s important to note that the seller must get that release signed by the lender. If they don’t, they could be on the hook for any payments the buyer misses.
Are All Mortgages Assumable?
No, all mortgages are not assumable. Conventional mortgages (those originated by lenders and then sold in the secondary mortgage investment marketplace) may be more difficult to assume, whereas FHA, VA and USDA mortgages are assumable. At this time, Quicken Loans® doesn’t offer USDA loans.
If Quicken Loans is the mortgage servicer, the loan may be assumable by a qualified buyer as a conventional loan if it’s an adjustable rate mortgage (ARM) and the fixed period is over. In the case of FHA, USDA and VA loans, the loan can either be fixed or adjustable.
It should be noted that in cases of inheritance or property transfer not involving a sale, assumption is sometimes easier. If you find yourself in this situation, it will be helpful to speak with the servicer of the mortgage about options.
Why Do Sellers Offer Assumable Mortgages?
Sellers in an environment of rising interest rates offer assumable mortgages as an incentive to prospective buyers. Historically, home sales slow with rising interest rates. If it’s a buyer’s market, you might be looking for those extras. If sellers can offer a mortgage at a lower interest rate to buyers, the savings could be substantial and cost sellers nothing.
Why Might You Want An Assumable Mortgage?
The short answer? A buyer might want an assumable mortgage because a lower interest rate and reduced closing costs can save them big bucks.
If a lender offered creditworthy buyers 30-year fixed-rate mortgages at 10% interest, and the seller had an assumable mortgage at 5%, the overall savings would be considerable. A $250,000, 30-year fixed-rate mortgage offered at a rate of 10% would result in monthly payments of $2,193.93 while the same mortgage at 5% would result in monthly payments of $1,342.05.
Overall, the finance charges alone on the 10% mortgage would amount to more than twice the original amount, or $539,814.41. The 5% mortgage would cost not quite double the original amount borrowed, or $233,139.46.
If you assume a mortgage, you could also see significant savings at closing. The lender will not need a new appraisal because the mortgage is in place. The FHA, VA and USDA impose limits on assumption-related fees in order to keep these mortgages affordable.
Are There Any Downsides To Assuming A Mortgage?
There can be downsides to assuming a mortgage, and it all depends on the circumstances.
Large Cash Down Payment Requirement
The biggest downside to assuming a mortgage is that a buyer may need to have more cash on hand than they would if they were applying for their own mortgage. One reason for this is that if the seller has owned the home for a while, they could have substantial equity built up, and the buyer would have to reimburse the seller for that equity. But even if they don’t have equity built up, the buyer would have to pay upfront for any appreciation in the home’s value.
For example, if the seller bought a home 5 years ago for $200,000 and is offering it for $250,000 now, the buyer would take over the mortgage and repay the seller for any equity built up, which in this example would be $50,000. If they have the cash on hand, the buyer will walk away with a good deal. If not, they’ll have to take out a second mortgage, typically at a higher interest rate, albeit for a much lower principal.
Mortgage Insurance Payments
If the seller made less than a 20% down payment on a conventional loan and sells the property prior to reaching 20% equity, the buyer will have to take on that monthly payment for private mortgage insurance (PMI). Among other ways, the person assuming the mortgage can request the removal of PMI once they reach 20% equity based on the original payment schedule.
In contrast, FHA loans have mortgage insurance premiums (MIP). Unless the original buyer made a down payment of 10% or more, MIP sticks around for the life of the loan. If they did make a down payment of more than 10%, MIP is still paid for 11 years.
USDA loans have guarantee fees which function similarly to MIP, although they’re slightly cheaper. However, you’re stuck with them for as long as you have the loan.
VA loans have a one-time funding fee that can either be paid at closing or financed into the loan rather than mortgage insurance. On an assumption, the funding fee is 0.5% of the existing loan balance.
A Special Caution For VA Assumable Loans
There’s one special note for those who might be looking to have someone assume their VA loan. Although anyone can assume a VA loan, the only way to have your VA entitlement restored so that you can buy another home with a VA loan is to have the home assumed by a fellow eligible active-duty service member, reservist, veteran or eligible surviving spouse. In that case, their entitlement is substituted and your VA entitlement is restored. If one of these people doesn’t assume your loan, your VA entitlement can’t be restored.
Are Assumable Mortgages Common?
Interest rates continue to be very low, and the Federal Reserve has promised that they will remain low for the foreseeable future. In a low-interest-rate environment, assumable mortgages lose much of their appeal. The use could be more widespread in the future if interest rates rise.
How Are Assumable Mortgages Used In The Cases Of Divorce Or Death?
In the case of divorce, the spouse who remains in the family home will usually assume sole responsibility for the mortgage. The lender will then request documentation to verify that the spouse meets their eligibility requirements. Assuming they do, they will then remove the nonresident spouse from the mortgage and relieve them of future liability. Similarly, an heir to a home can assume the deceased person’s mortgage if they meet lender requirements.
It’s worth noting that in the case of an inheritance, you can continue to make the payment under the current terms of the loan without having to put your name on the mortgage. However, if you want to refinance, your name would have to be on the loan. Still, it’s an option if you want to keep a family home, but may not qualify right away.
Is An Assumable Mortgage Right For You?
It’s always good to be on the lookout for deals when they come along, and knowing what assumable mortgages are and how they work may help you spot the next big real estate bargain. Learn more about buying your next home in our Learning Center.