The purchasing of a home is probably the largest and most expensive financial transaction people will ever undertake. Unless you are lucky enough to be independently wealthy then when we decide to purchase a home, some type of financing is usually involved. The most common type of financing for a home is a bank issued mortgage. There is another type of mortgage available though that few people are aware of. The assumable mortgage. This type of mortgage allows the buyer of a home to take over the mortgage already attached to the property by the seller. This is often an easier method for a lot of buyers and only requires the original mortgage lenders approval.
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If mortgage rates have increased since the original mortgage was issue then the benefit of this strategy is to the buyer. The buyer does not have to contend with an increased cost of borrowing due to interest rates that have risen dramatically over the last few years. They are able to take advantage of the original buyers’ low interest rates. The only disadvantage of an assumable mortgage is the possibility that the cost of the home might not be completely covered by the remaining mortgage value, leading the buyer to have to secure additional funding.
An example of the situation is if the buyer finds an home which is being sold for $200,000, but the sellers mortgage only has an assumable value of $100,000 then the buyer will have to make a down payment and acquire personal financing for the remaining $100,000. To put this simply the buyer can only assume a mortgage worth 100,000 and will have to take a second mortgage on the property to cover the other 100,000 at the current interest rate which is undoubtedly higher. It should also be noted that the lender on an assumable mortgage usually reserves to right to alter the terms of the agreement to accommodate the credit risk of the buyer and the current housing market environment.
While this type of mortgage has many advantages to the buyer there is a flip side. The seller has a unique risk involved with the transaction. In many cases an assumable mortgage may still be held as a liability of the seller after the transfer of ownership has taken place. Let’s assume that the house is valued at $300,000 and the assumable amount of the mortgage is $150,000. After 6 months of assuming the mortgage the buyer defaults on the agreement only paying $50,000. The mortgage lender is only able to recover through litigation $30,000 from the buyer. The original holder of the mortgage, the seller, can be held liable for the remaining $70,000! There is a way for the seller to protect themselves however. They need to release their liability in writing at the time of the transaction, making sure that a notarized and registered copy is provided to the buyer, the lender and retained for their own purposes. Another copy, it is recommended be placed with the seller lawyer, should it be necessary to have it brought forth as evidence in a legal proceeding.
There are many variables involved with assumable mortgages. Make sure you speak with a REALTOR® before proceeding.