Whether you are a first-time buyer or a seasoned investor, navigating a high interest rate market is never an easy feat. Finding ways to mitigate the impacts of “high” interest rates are imperative to setting yourself up for success and truly building wealth through real estate. Among these remedies are “assumable mortgages” and “subject to purchases,” two concepts that, while related to the sale and transfer of property ownership, differ significantly in their structure and implication. Understanding these differences is crucial for anyone looking for creative financing.
Assumable Mortgages: Debt and Opportunity
An assumable mortgage is when a buyer takes over the seller’s existing mortgage under the same terms, rather than obtaining a new loan. An assumable mortgage is transferred from the seller’s name and credit to the buyer’s name and credit through the bank’s assumption process. This can be particularly beneficial in high rate environments when the existing mortgage has a lower interest rate than what is currently available in the market. For sellers, it can make their property more attractive to potential buyers, by making the property more affordable via a lower interest rate.
However, not all mortgages are assumable. Typically, government-backed loans such as FHA, USDA, and VA loans are assumable, while conventional loans are not. It’s important to note that assuming a mortgage usually requires the buyer to qualify for the existing loan and obtain approval from the lender. This process ensures that the new borrower is capable of making the payments.
Subject To Purchases: A Purchase with a Plot Twist
A “subject to” purchase refers to a situation where the buyer purchases the property “subject to” the existing mortgage. In this case, the buyer does not formally assume the mortgage. Instead, they agree to make payments on the existing loan, but the original borrower (the seller) remains on the hook for the loan in the eyes of the lender/bank. The mortgage stays under the seller’s name and credit, it does not officially get transferred to the buyer.
This type of creative financing can be beneficial for buyers who might not qualify for a traditional mortgage, are looking for a quicker transition with less hoops to jump through, and a potentially lower interest rate than what is available in the market. It can also be advantageous for sellers who are looking to sell a property quickly, and/or sell a property that may not be in good enough condition to list on the MLS. However, it does come with significant risks, particularly for the seller. Because the seller is still legally obligated on the debt, if the buyer defaults on those mortgage payments, the seller’s credit is affected not the buyers. The sellers would be the ones facing foreclosure. It can also hinder the seller from being able to qualify to purchase a new home, as they would have to qualify for two mortgage payments: the new one for the home they are buying, and the mortgage that is still in their name tied to the home they sold. For traditional mortgages, the seller will never be able to omit that mortgage when trying to qualify for a new mortgage while that old mortgage is still active. There may be some lenders that allow this, but not for the standard conventional or FHA type loans.
Legal and Financial Impacts
Both assumable mortgages and subject to purchases have complex legal and financial implications. For assumable mortgages, the process is more transparent and secure, as the lender is involved and must approve the new borrower. In contrast, subject to purchases can be riskier, especially for sellers, because they remain legally responsible for the loan.
Moreover, buyers should be aware that lenders may have a “due on sale” clause, which requires the full loan balance to be paid when the property is sold. While this is not enforced with assumable mortgages, it can be a significant risk with subject to purchases if the lender chooses to exercise this clause. There is a way around the due on sale clause by structuring in a land trust, but that would be something to discuss with a qualified attorney to understand the benefits and risks.
The reality is, both assumable mortgages and subject to purchases offer creative ways for property ownership, each with its own set of benefits and risks. Buyers and sellers must carefully consider their financial situation, risk tolerance, and the current market before proceeding with either option. Consulting with a real estate attorney or a financial advisor is also a wise step to ensure that all legal and financial bases are covered, paving the way for a smooth and successful real estate transaction.
Sr. Loan Officer
THE MT GROUP