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Ready to buy a new-to-you home, but feeling trapped in your current one?
It costs more to finance a home purchase now than it did not that long ago, so you could be wanting to buy but feel stuck because today’s rising loan rates can’t compare with the super-low rate you’re enjoying on your present mortgage.
Get your grandparents on the line and let them tell you about assumable mortgages. Finding one with a low rate, and assuming it, could be the answer, although the difference may not be great enough — yet? — to bring assumptions out of obscurity.
An assumable mortgage, if approved by a lender, lets a buyer buy out a seller’s equity and assume the interest rate, repayment schedule, principal balance and other terms of a seller’s mortgage.
Conventional mortgages generally aren’t assumable, but government-backed loans are — as in those insured by the Federal Housing Administration, Department of Veterans Affairs and U.S. Department of Agriculture.
“The last time we saw a significant number of assumptions was in the late 1970s and early 1980s, when interest rates were at the highest levels in the past 50 years,” said David Chapman, chairman of the Oklahoma Real Estate Commission.
The point of assumption is to take over a loan at its original interest rate to avoid a new loan with a higher rate. The spread between the two was great a couple of generations ago.
“As an example, rates in 1965 were less than 6% and by 1980 the average mortgage rate was almost 15%,” said Chapman, an investor, real estate broker, developer, and finance professor at the University of Central Oklahoma.
An assumable mortgage “makes the property much more valuable,” he said. “Properties at that time without an assumable loan availability were actually worth less because they cost the buyer more.”
Assumable loans aren’t quite in the news again, but they have gotten a little renewed attention with recent rate hikes. Real estate agents are meeting with old-timers to learn, or relearn, about them, and to go over documents that have gone unused for years.
How do you find out if a home you want to buy has an assumable mortgage? How do you, as a seller, let would-be buyers know you have one? It’s easy enough.
“If you’re a seller, mention it. If buying a home, ask if it’s assumable,” investor and mortgage blogger Colin Robertson wrote in a recent post.
The post title tells the tale: “Assumable Mortgages: A Little Known Tool You Can Use Now That Interest Rates Have Surged Higher.” It’s been that long since assumable mortgages were part of the daily mortgage mix, because rates were so low for so long,
“The assumable mortgage hasn’t been on anyone’s radar over the past couple decades because mortgage rates kept creeping lower and lower,” Robertson wrote. “But now that they’re surging higher and higher, you’ll likely hear more about them.
“Just know the many pitfalls and drawbacks involved.”
Note: The sudden jump in rates has paused in the face of inflation and the increasingly possibility of recession, according to Freddie Mac.
The average rate for the traditional, 30-year, fixed rate loan was 5.7% this week, down from 5.81% last week, Freddie Mac reported. Rates averaged less than 3% for most of 2020 and 2021.
Pros, cons of assumable mortgages
Bankrate.com, the personal finance website, lists these upsides and downsides of assumable mortgages in an article by Zach Wichter.
• Pro for buyers, in addition to a better-than-prevailing interest rate: “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.”
But an appraisal is always advisable, to avoid overpaying.
• Con for buyers: “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.”
• Another con for buyers: “If the seller has a lot of equity, you could have to come up with a hefty down payment.”
• Pro for sellers: “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.”
• Con for sellers: “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,” for example, if the lender doesn’t release the original borrower from liability, and the new borrower defaults.
Chapman had a few other considerations.
A buyer assuming a mortgage might be able to “afford more home,” since the cost of borrowing is less than prevailing rates and closing costs also may be somewhat less, he said.
Other disadvantages: The buyer likely will have to take out a second mortgage to buy the seller’s equity, and second mortgages “may be complicated and harder to qualify,” Chapman said.
Also, with FHA-backed loans, a mortgage insurance premium is required for the life of the loan.
Behold the loss of buying power to rising mortgage interest rates
Chapman gave an example of the loss in buying power that comes with higher rates:
Not long ago, a buyer with an FHA-backed, fixed-rate mortgage and the required (for FHA) 3.5% down payment could have borrowed money at about 3% interest and had a monthly house payment of $894, not counting taxes and insurance.
“Now, with recent rate increases, that buyer may be obtaining a loan at roughly 6% and that same payment would increase to over $1,200 per month. The payment increases, but it also changes how much home the buyer will quality or afford to buy,” he said.
Chapman volunteered two observations, one for all of us, and one just for investors.
For all of us:
“Always remember that interest rates are still very good. Yeah, I get it, it is all relative and they were unreasonably low for a long period of time and now seem high,” he said. “Buyers need to compare the costs of purchasing a home and renting a home.
“Home rentals are going up, as well. It is an easy comparison, and it is likely that they will find owning a home to still be a pretty good option, especially when we consider the advantages of owning property during inflationary periods. Real estate is absolutely the best hedge to inflation.”
For real estate investors:
“I’ve had my best years during higher interest rate environments,” Chapman said. “For me it is about the home price. I can always refinance in the future, but I can never change the amount I pay for the property, and I know I have to pay significantly more for properties during low-interest rate environments than in high-interest rate environments.”
Your mileage may vary, as they say. For informational purposes only, as they say. Does not constitute financial advice, as they say. Not legal advice, either.
When it comes to assumable mortgages, consult an expert — and assume nothing.
Senior Business Writer Richard Mize has covered housing, construction, commercial real estate, and related topics for the newspaper and Oklahoman.com since 1999. Contact him at rmize@oklahoman.com.
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