Assumable Mortgage: What Is It, How It Works, Pros & Cons

An assumable mortgage is when a home buyer takes over the seller’s existing mortgage. When assuming a mortgage, the same terms and conditions from the seller’s mortgage are transferred to the buyer. A mortgage loan assumption means the buyer does not have to apply for their own mortgage. Instead, they “assume” the original mortgage’s interest rate, repayment period, and remaining balance.

An assumable loan has pros and cons for buyers and sellers. Therefore, knowing how assumable mortgages work can help you decide on the best type of home loan for your circumstances.

What Is an Assumable Mortgage

Assuming a mortgage allows a buyer to take on the home seller’s existing loan without getting a new one. The mortgage terms and conditions are transferred to the buyer, who pays off the remaining balance. Although the mortgage assumption process isn’t easy, it can potentially save you hundreds of dollars when purchasing a home.

It’s important to note that not all mortgages are assumable, and there may be stringent requirements to meet. However, in many cases, an assumed mortgage makes the house-buying process simpler.

How Does an Assumable Mortgage Work?

An assumable mortgage works like a conventional loan. The buyer applies to assume the loan and must meet the seller’s lender requirements. However, it’s vital to note that the assumed mortgage doesn’t account for equity. Therefore, the buyer must cover the difference if the property has gained value. This may involve applying for a second mortgage.

Mortgage assumptions work best when the seller’s home equity is low. This is because the amount required for the assumed loan may be similar in value to the down payment. So if you have this amount in cash, you can pay the seller directly without applying for a second mortgage.

The cost of mortgage assumption

Here are two examples of how an assumable mortgage works.

Suppose you want to buy a home valued at $395,000, but the seller has a $190,000 mortgage balance. In that case, the mortgage lender will require you to cover the equity value—$205,000. Therefore, you may have to apply for a second loan to assume the existing mortgage.

However, let’s say the home loan balance for the same home is $355,000. In that case, the equity—the amount of the home the seller owns—is lower. So you would only need $40,000 to assume a mortgage. This amount may be a down payment that you could pay in cash.

Eligibility requirements for assumable loans

Here are some of the requirements when applying for an assumable mortgage:

• Minimum credit score of 620 for a USDA loan and 580 for an FHA loan
• Debt to income ratio that meets the lender’s requirements
• Meet the minimum income requirements
• Pay the assumable loan fees
• Provide information regarding employment history
• Arrange for a down payment to repay the equity

Most homebuyers applying for an assumable mortgage usually take out a home equity loan to cover the equity. This usually means paying a higher mortgage interest rate than the assumable mortgage. However, the interest rates will be lower than when taking out a first mortgage.

It’s important to note that you will be liable for closing costs and monthly payments taking out a second mortgage.

Simple mortgage assumption vs. novation

There are two types of assumable mortgages—simple assumption and novation. These mortgage types define the ongoing relationship between seller and lender. Here is a brief explanation of how the assumable mortgages work:

• Simple assumable mortgage: This is a private mortgage transfer between seller and buyer. Theoretically, the original seller still owns the mortgage, but the buyer becomes responsible for mortgage payments. However, this process is risky for the seller. For example, if the buyer defaults on mortgage payments, the buyer and seller are both liable.
• Novation: The seller’s lender approves the transfer and liability of the existing mortgage to the buyer. Therefore, the seller is no longer liable for mortgage payments.

Which Types of Mortgage Loans Are Assumable?

Loan assumption is possible on several types of mortgages. These include FHA loans, VA loans, and USDA loans. Here is a short description of the loan’s eligibility requirements.

FHA loans

Federal housing administration (FHA) loans are assumable if the seller’s lender approves the sale. Older FHA loans only require the buyer to meet specific credit and income requirements. However, newer FHA loans require the buyer and seller to meet more specific criteria to meet. These are the following:

• The seller must live in the home as a primary residence for the required time.
• The buyer must go through the standard loan application procedure for an FHA loan.
• The buyer does not have to prove creditworthiness if the FHA loan is assumed through death or inheritance.

Once approved for the FHA loan, the buyer assumes the mortgage. However, the seller may remain accountable for the loan unless the lender releases them.

VA loans

VA loans backed by the Department of Veterans Affairs are assumable. Depending on the VA loan terms and conditions, processing the paperwork may take longer. However, a VA loan assumption doesn’t require the buyer to be in active military service or be a military veteran.

VA loans closed before March 1, 1988, are classified as freely assumable loans. Therefore, the seller’s lender does not have to approve the mortgage assumption.

However, a VA loan closed after March 1, 1988, must have the lender’s approval, and the buyer must be deemed creditworthy.

USDA loans

Loans backed by the United States Department of Rural Affairs (USDA) are assumable. A USDA loan allows low- or moderate-income borrowers to purchase or refinance homes in rural areas with no down payment. It may be possible to assume a mortgage when buying a rural property if buyers meet the following criteria:

• Must meet the standard credit and income requirements
• Obtain lender approval to transfer the property title
• The seller must be up to date with mortgage payments

If approved, the buyer can inherit the current interest rate and loan terms or negotiate new rates. It’s important to note that assuming most USDA loans means the seller is released from their obligations to repay the remaining loan balance.

Are Conventional Mortgages Assumable?

Not all home loans are assumable. For example, conventional loans typically contain a due-on-sale clause. Therefore, the seller cannot transfer the existing mortgage to the buyer. Instead, they must pay the entire remaining loan amount when the property is sold.

In some cases, you can assume a conventional mortgage. This is possible in the case of adjustable-rate mortgages (ARM). For example, one of the two mortgage agencies—Fannie Mae—allows for assumable adjustable-rate mortgages. The stipulation is that the buyer cannot convert the loan to a fixed-rate mortgage.

Pros of an Assumable Mortgage

Buyers and sellers have significant advantages by arranging for an assumable mortgage. Here are a few.

Easier to sell a home

The primary advantage of an assumable mortgage for sellers is a quicker sale. For example, the property is more marketable if interest rates have increased recently. Also, assuming a mortgage simplifies the house-buying process, giving the property the edge over similar ones.

Another benefit to sellers is that it’s possible to get a higher price on the property. Buyers know that they can lock in better mortgage interest rates. Therefore, the seller can negotiate a higher purchase price.

Lower interest rates

The biggest advantage of mortgage assumption for buyers is lower interest rates. Finding a suitable mortgage from a new lender with rates lower than the current one may be impossible. In this case, an assumable mortgage is an ideal solution.

Lower closing costs

A benefit of home loan assumption is buyers can save hundreds of dollars on closing costs. The typical costs of closing a real estate transaction when assuming a VA, USDA, or FHA mortgage are capped.

Mortgage approval is easier and faster

Applying for an assumable mortgage could be a savvy move if buyers cannot get approval from a mortgage lender. Although the buyer’s credit score and DTI are important, the approval process is less stringent. Additionally, there is no requirement for a home appraisal; therefore, the application process is faster.

Cons of an Assumable Mortgage

Taking on an existing mortgage contract may not be the best move for everyone. For example, the seller is more at risk if the buyer takes over a freely assumable mortgage. Also, the buyer could face a hefty down payment if the home has substantial equity.

Here are a few disadvantages of an assumable mortgage.

Increased financial risk for sellers

Sellers can face financial risk unless the mortgage lender releases them from future responsibility. This situation mostly occurs with assuming a VA loan where the buyer and seller could agree to a simple assumption. For example, if the buyer breaches the mortgage contract, both seller and buyer are liable.

Therefore, it is vital to obtain lender approval and get released from liability when selling a home with a mortgage through assumption.

Lost VA entitlement

Sellers who sell a house with a VA loan through assumption lose VA loan entitlement until the assumed loan is paid off. To avoid this situation, the seller must obtain a release of liability and apply to the Department of Veterans Affairs to renew the entitlement.

Higher down payment

Buyers face a higher down payment if the home has significant equity. In this case, the buyer may have to find a traditional home loan to finance the house purchase.

Therefore, the cost to pay the equity on the home may be more than the typical down payment for home buyers.

Second mortgage

Taking out a second mortgage can be complicated due to the involvement of two lenders. This can result in complex contractual agreements in the case of default. Additionally, the higher interest rates of a second mortgage and closing costs can negate the savings of an assumable loan.

Limited mortgage options

Taking on the seller’s mortgage contract limits your options to shop around for the best mortgage rates. There is little room to negotiate better deals on the mortgage as the buyer is locked into the original mortgage terms.

Possibility of higher additional costs

Assumable loans may have additional costs not typically associated with conventional loans. For example, buyers must pay loan assumption fees—between 0.5% and 1% of the original loan amount. Also, buyers usually must pay mortgage insurance on Federal Housing Administration loans.

Qualifying for an Assumable Mortgage Loan

Applying for an assumable loan is not difficult. And in many ways, the application process is similar to applying for a conventional mortgage. However, there are certain steps you need to take to ensure your application is successful.

Here are the steps to assume a mortgage:

1. Confirm loan assumption is possible: The first step is to ensure it’s possible to assume the mortgage. The current lender can provide information on the seller’s mortgage payment status. The mortgage contract should have an assumption clause.
2. Arrange financing: It’s necessary to determine how much equity the seller has in the home. This amount will determine the size of the down payment you must make. In some cases, you could put cash down to cover the equity. Or you may have to apply for a home loan.
3. Submit the application: The lender will provide the necessary forms to assume the loan.
4. Sign liability release: If approved, the buyer must complete the paperwork and close the home loan. The title of the property is transferred to the buyer. Depending on the type of assumable mortgage, the buyer may have to sign a release of liability.

Suppose the lender does not approve the title transfer and mortgage assumption. In that case, the seller must find an alternative buyer.

It’s vital to remember to conduct due diligence on the home before you decide to buy it. Even though the lender doesn’t require a home appraisal, arranging a home inspection’s still a good idea. This helps protect the buyer from unforeseen repairs or structural issues later.

How to Assume a Mortgage After Death or Divorce

Not all mortgage assumptions arise from selling a house. Assumptions can happen after a divorce or inheriting a home after a person’s death.

• Assuming a mortgage after a divorce: A spouse can assume a mortgage following a divorce. In this case, they must prove income eligibility and have a good credit score to prove they can meet the minimum monthly payment.
• Assuming a home loan after death: Family members can assume the full existing mortgage if they inherit the property. This is also the case for conventional loans, even though assumption regulations do not typically cover them. If the new borrower is related to the deceased, they do not need to qualify for the loan to assume it.

However, there is no legal obligation to keep the mortgage. It is possible to refinance, pay off the debt, or sell the property.

Learn More About Assumable Mortgages

Use these resources to learn more about assumable mortgages and buying a house:

Assumable Loans: How to Time Travel Back to 3% Rates on Your Next Buy

How Many Mortgages Can You Have?

What is a Wraparound Mortgage?

How to Refinance Your Mortgage: The Ultimate Guide