Preowned cars. Used books. Secondhand clothing. All of these goods can be smart money-saving purchases. So, what about used mortgages?
The idea might sound crazy, but in fact, a buyer can take over, or “assume,” a seller’s mortgage in some cases. The process isn’t easy, but both buyers and sellers should know what an assumable mortgage is, when it’s desirable and who can benefit.
What is an assumable mortgage?
An assumable mortgage allows a buyer to assume the rate, repayment period, current principal balance and other terms of the seller’s existing mortgage rather than obtain a brand-new mortgage.
The biggest potential advantage for the buyer is that the terms of the seller’s mortgage might be more attractive than the prevailing terms the buyer would be offered on a new mortgage. The interest rate is key, though other factors should be weighed, too.
Overall, assuming an existing mortgage can be simpler, easier and less costly for the buyer, says Lemar Wooley, a spokesperson at the U.S. Department of Housing and Urban Development.
What kinds of mortgages are assumable?
In theory, any type of home loan could have an assumable mortgage clause. However, only three types of loans typically have this feature:
- FHA loans – If you want to assume an FHA loan, you’ll need to meet standard FHA loan requirements. These include being able to put down a minimum of 3.5 percent with a credit score of at least 580.
- USDA loans – To assume a USDA loan, you typically need a minimum credit score of 620. You also have to meet income limits and location requirements. Note that a USDA loan is typically assumed with a new rate and terms, but in some cases, like transfers between families, it can be assumed with the same rate and terms without needing to meet eligibility requirements.
- VA loans – To assume a VA loan, the lender has to approve it, usually by first evaluating your creditworthiness as a borrower. You don’t necessarily have to be a member of the military or a veteran to assume a VA loan. While there isn’t a minimum credit score, a lender will typically look for a 620 and above. You’ll also still have to pay the funding fee of 0.5 percent.
Conventional loans typically are not assumable.
Look for an assumption clause
To know whether your mortgage is assumable, look for an assumption clause in your mortgage contract. This provision is what allows you to transfer your mortgage to someone else. Remember that if assumption is allowed, the mortgage lender will typically hold the new borrower to the loan’s eligibility requirements.
How do assumable mortgages work?
When you assume a mortgage, the current borrower signs the balance of their loan over to you, and you become responsible for the remaining payments. That means the mortgage will have the same terms the previous homeowner had, including the same interest rate and monthly payments.
If you assume the mortgage, you’ll need to pay off whatever equity the seller has, as well, either in your down payment or by using another loan.
Assuming a mortgage after death or divorce
Assuming a mortgage doesn’t just have to happen through a sale, though. A family member can assume an existing mortgage from a relative who has died, for instance, or, if one person is awarded sole ownership of a property in divorce proceedings, that person can assume the full existing mortgage themselves. In both cases, assumption is allowed even if the contract doesn’t include an assumption clause. In an inheritance scenario, the new borrower does not need to qualify for the loan in order to assume it.
Pros and cons of assumable mortgages
- Your home can be more desirable to buyers – If you’re the seller with little equity and your existing mortgage has a low rate, your home can be more appealing to a buyer.
- You typically don’t need an appraisal – An appraisal isn’t usually required when assuming a mortgage, which might make the deal easier to close and saves the buyer the appraisal fee, which could be several hundred dollars. (As a buyer, you might still want to get an appraisal independently of the lender to mitigate the risk of overpaying for the property, however.)
- You’re limited to the current lender – If you’d like to assume a mortgage, you must still apply for the loan and meet all of the lender’s requirements as if the loan were newly originated. Without the lender’s consent, the assumption cannot happen. That restriction limits your choice of a lender to the seller’s loan servicer.
- You could need to make a large down payment – If the seller has a lot of equity, you could have to come up with a hefty down payment.
- You could still be responsible for the debt – As the seller, if the buyer doesn’t make payments, your credit could potentially be negatively affected. “If the lender doesn’t release the original borrower from liability for the mortgage, and the assumptor defaults, then the original borrower suffers damage to his or her credit rating,” Wooley says.
How to assume a mortgage
In order for you to assume a mortgage, your lender has to first give you the green light. Here are the steps to take:
- Confirm that the loan is assumable – Be sure to confirm that the loan is in fact assumable. It’s also a good idea to speak with the current mortgage holder’s lender to ensure they’ll allow the assumption and that the borrower has been consistent with their loan payments.
- Prepare for the costs – You’ll need to make a down payment, but the amount depends on how much equity the seller has. Once the assumption has been approved, you’ll also have to pay closing costs, but these are generally lower when you assume a mortgage compared to getting a loan the usual way.
- Submit your application – The assumption process could look different from lender to lender, but in general, you’ll need to fill out an application and other forms and provide identification.
- Close and sign liability release – If the assumption is approved, you’ll need to fill out paperwork just as you would when closing any other type of home loan. This might include a release of liability confirming that the seller is no longer responsible for the mortgage.