Assumable loans are a fairly simple concept: the new owner of the property, instead of taking out a new mortgage, simply “assumes” responsibility for the existing mortgage. They get the same interest rate, repayment period, loan balance, and all other terms included in the current mortgage.
The only thing that changes, essentially, is the person living in the home and paying the bill.
What are Assumable Loans, and Are They Available to You?
The advantages to all parties involved seem pretty clear: speed and efficiency. By allowing for the assumption of loans, a transaction can be completed much faster, which is an advantage for everyone but especially for sellers who want to offload the property quickly. Buyers can also save, as there are fewer costs compared to generating a new loan.
It all sounds perfect for everyone.
So why don’t more people use assumable loans? Why don’t mortgage companies and lending agents promote assumable loans? Why don’t homeowners utilize them when selling a house, and why don’t buyers seek them out when home shopping?
Assumable loans clearly have their advantages, but when you learn more about this form of financing, you’ll also see that they bring risks and challenges for everyone involved.
What Loans are Assumable?
Very few loans are actually assumable. Instead, most loan contracts function with a “Due-on-Sale” clause, which mandates that the loan must be paid off immediately after selling or transferring the property to another person. Under most mortgage contracts, you must use all or some of the proceeds from the sale (or your own cash, as long as it’s paid) to repay the entire remaining balance and end the mortgage loan. Basically, if your ownership of the property ends, so too must your ownership of the mortgage loan.
Assumable loans, however, do not have this clause. But there are very few that are assumable, and most of them are highly specific on how and why the loan can be transferred to another party.
VA loans and FHA loans, for example, are sometimes assumable, but many have detailed clauses, and the ones that are assumable are often old loans with high interest rates and small balances; it simply doesn’t make sense to assume these loans for most buyers. Even if the loan is assumable, the agency in question has to approve the new person, so assumption is not guaranteed.
For newer loans, especially FHA loans, the buyer needs to meet the current standards set by the FHA, which may not be easy to do. In addition to FHA requirements, the lender on the loan may have additional qualification standards, so approval, once again, is not guaranteed.
Assumable Loans from the Lender’s Perspective
From the lender’s perspective, assumable loans create a variety of risks, which is why they are so rare.
Think about this way…
Suppose your friend John needed a car. You, being the nice person you are, gave your used car to him under the promise that he would pay you $15,000 at a later date. (For some reason John can’t get a car loan, but bear with us!) You know your friend well, and you are confident that he has the financial means and responsible attitude to repay you.
But later in the month, John tells you that he’s given the vehicle to his cousin Samantha. Samantha, he says, will now be paying for the car. But you don’t know Samantha; you don’t know if she’s a trustworthy person, you don’t know if she can afford to pay you for the vehicle. For obvious reasons, you’re not thrilled that John transferred the car and the financial responsibility to Samantha.
This is essentially, on a much smaller scale, the situation that mortgage lenders go through when a property and the attached loan is transferred. For this reason, they are rare and highly scrutinized.
Assumable Loans from the Seller’s Perspective
From a seller’s perspective, transferring the loan to another person has one clear advantage: speed. Selling a property quickly is always a priority, and sellers can enjoy faster sales if, instead of processing an entirely new loan, the buyer can simply assume the existing mortgage.
But problems can occur for the seller if they are not completely detached from the mortgage once it is transferred. If the seller remains tied to the loan and the buyer defaults, the seller may be financially responsible; their credit could be harmed and the lender could seize their property.
Assumable Loans from the Buyer’s Perspective
From the buyer’s perspective, assumable loans can help you avoid the costs of processing a new mortgage and going through the process of applying, qualifying, and getting final approval. If the interest rate and terms on the existing mortgage are attractive, assuming the loan can also bring long-term benefits.
But getting approved for these loans, as we have described, can be tough. Also, a buyer assuming a mortgage may have to bring a larger downpayment, which helps show their financial commitment to the property and general ability to generate and save cash.
In some cases, they may need a significant amount of cash to pay off the current owner. For example, if the current owner has a home worth $300,000 and a remaining loan balance of $100,000, the buyer may need to pay the seller $200,000, then assume the loan payments. This could mean that the buyer needs a fresh loan to pay off the seller; they’ll have to repay that new loan plus the existing mortgage, which could complicate the finances.
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If you are considering a home purchase, let us help you choose the right loan. With a commitment to common-sense underwriting, we can help you get approved for a loan that fits your needs and budget.
