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Are you looking for an alternative option to finance your home purchase? Assumable mortgages are loans transferred from the seller to the buyer upon purchase. This can simplify the closing process and even help borrowers save money in many cases. Here’s what you need to know about assumable mortgages to decide if they are right for you.
What Is an Assumable Mortgage?
An assumable mortgage is a type of mortgage loan that is passed from the seller to the buyer at closing. The buyer takes over the monthly mortgage paymentsand keeps the initial terms of the loan, such as the interest rate, repayment period, and principal balance. Once this process is finalized, the buyer becomes responsible for all payments moving forward. In most cases, there are two kinds of mortgage assumptions:
A simple assumption occurs when the buyer takes over the mortgage payments. Ownership is passed to the buyer, and the seller is put in a secondary obligee position. Even though the mortgage has been “passed on,” the seller still holds responsibility if the buyer defaults. This type of assumption puts more risk on the seller.
A novation is similar to a simple assumption, but the seller is absolved of all responsibility for the loan with this type of assumption. The lender formally releases the seller from the mortgage, and the buyer assumes all obligations for the loan. This is the preferred route for sellers and makes for a cleaner-cut transition.
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How Does an Assumable Mortgage Work?
When a buyer and seller enter into a purchase contract agreement, they can establish an agreement for the buyer to take over the seller’s mortgage. To do so, the buyer must qualify for the mortgage terms and agree to take on the mortgage as is.
Once the mortgage is transferred from the seller at closing, the buyer will begin making mortgage payments as they would in a traditional scenario. If the parties have agreed to a novation (see above), the seller will no longer hold any responsibility for the mortgage loan, and any payment defaults will be the buyer’s responsibility.
Note:Whatever the seller has in equity, the buyer will need to pay off at closing either through the down payment or another loan.
Which Mortgages Are Assumable?
While there are many benefits with assumable mortgages, it’s not as easy as deciding to take over someone else’s mortgage. There is a regulated process with several steps you’ll need to follow. The first step is to ensure that the mortgage you’re looking to take over is assumable. Some mortgages contain a “due on sale” clause, such as conventional loans. This clause requires the loan to be paid off if the property is sold. Here are a few assumable mortgage loans.
VA loans are backed by the Department of Veterans Affairs and are assumable. The incoming buyer does not have to be a veteran or a military service person to qualify per the VA, but the lender will still need to approve the assuming buyer for the loan. (See Best VA Loan Lenders)
USDA loans, available to owners of rural properties, are assumable. The buyer must meet qualifying requirements and be approved to take over the mortgage by the USDA.
Are Conventional Mortgages Assumable?
Conventional mortgage loans are not backed by any government-sponsored enterprise and are generally not assumable. They typically always include a “due on sale” clause and require the loan to be paid off when the property is transferred. The exception here is private lenders who create their qualification process and mortgage documents. When in doubt, check with the lender.
How to Qualify for an Assumable Mortgage Loan
So, you’ve found a seller with either a VA, FHA, or USDA loan that you’d like to take over. What’s next? First, you’ll need to ensure that you qualify for the assumable mortgage. Like with any other type of loan, you’ll need to meet the requirements for credit score, debt-to-income ratio, and other financial benchmarks. Each lender will have its own set of qualification guidelines. On top of this, you may need approval from the government entity backing the loan.
How to Assume a Mortgage
How can you qualify and be approved? Here are the steps you’ll need to take.
#1. Make Sure the Loan is Assumable
This is first and foremost. Confirm with the lender that the mortgage is assumable, and that the seller has not missed any loan payments. Additionally, make sure you’re on board with the loan terms, i.e., interest rate, payment period, and the remaining balance.
#2. Understand the Costs
Any mortgage loan is going to come with fees. Be sure to ask the lender what these closing costswill be and be prepared to pay them on top of your down payment. Fortunately, closing costs with assumable mortgages are typically lower than getting a loan the traditional way.
#3. Draft the Assumption Request
You must be approved by both the lender and the government entity issuing the mortgage for the assumption. You’ll fill out the application and gather any documentation requested. They will need to confirm your reliability as a borrower through your credit score, debt-to-income ratio, income, etc.
#4. Send the Assumption Request to the Lender
Once you have everything together, you can submit the request and application to the lender. If they request any additional documentation, be sure to provide it promptly so as not to delay closing. Remember, you’ll need approval from both the lender and issuing entity.
#5. Sign the Agreement
If you are approved to assume the mortgage, you’ll be required to sign paperwork agreeing to the terms of the assumption. The documents will go over whether this is a simple assumption or novation and other related conditions of the transaction.
#6. Make Sure the Deed is Modified
In the case of a mortgage assumption, all parties will sign a deed of trust to finalize the process. You will be named on the mortgage, and the seller absolved from responsibility in case of a novation. After closing, the deed of trust will be recorded at the county and available in public records.
Can You Assume a Mortgage After a Death?
Yes. In some cases, an assumable mortgage transaction will not occur in a typical sale situation. There might be a probate ruling that names one person as the inheritor of the property. This person, or the surviving spouse, can assume the mortgage and ownership of the home. They will need to go through the approval process with the lender and issuing entity.
Can You Assume a Mortgage After a Divorce?
Yes. If one person is named sole owner of the property in a case ruling, they can assume the mortgage. The same rules apply, and the assuming party must meet all qualification requirements. The lender needs to ensure that the new borrower can be trusted to make their monthly mortgage payments.
Pros and Cons of Assumable Mortgages
Before deciding to assume a mortgage loan, be sure you’ve explored both sides of the coin. You want to ensure this move is in your best interest.
- Buyer may assume mortgage with lower interest rate than current market rates.
- Appraisal not required.
- Lower closing costs than traditional loans.
- Simplified financing process.
- Buyer stuck with terms of seller loan
- Buyer has to come up with the funds to pay seller equity – may have to take out a second loan.
- For VA sellers, not getting a release of liability could affect your future eligibility with VA loans.
- Simple assumptions can put sellers in a risky position.
How Much Does It Cost to Assume a Mortgage?
The cost to assume a mortgage will depend on every case. A critical factor for buyers to understand is that they are responsible for paying off the seller’s equity. If the home sells for $500,000 and the remaining loan balance is $350,000, the buyer must pay the difference to the seller at closing. On top of this, the buyer is responsible for closing costs from the lender. This will vary between lenders, but there is a funding fee of .5% of the loan amount for VA loans.
>> More: What Is Home Equity?
Bottom Line: Assumable Mortgages
Assumable mortgages can make sense for borrowers in several situations. It’s an alternative method of securing financing and can be advantageous for both parties. Buyers may save money by assuming a loan with a low-interest rate and reduced closing costs, and it can streamline the closing process. Not all mortgages are assumable, but buyers and sellers should understand the pros and cons before making a final decision.