What is an assumable mortgage and how does it work?

There are many ways for prospective home buyers to finance a new house purchase. With so many mortgage possibilities to choose from, it can be tricky to select the right loan program.

One home financing option that some buyers might not be aware of is an assumable mortgage. This option comes with some benefits, but also some potential drawbacks.

Is an assumable mortgage the most appropriate choice for your financial situation and home buying needs? Find out by reading the details below.

What is an assumable mortgage?

An assumable mortgage allows a buyer to purchase a home by taking over the seller’s mortgage loan. Some buyers prefer to purchase a home with an assumable mortgage because it may allow them to take advantage of a lower interest rate.

This will be the case if the seller signed up for a fixed-rate mortgage and interest rates have risen since the seller purchased the home.

How does an assumable mortgage work?

An assumable mortgage is basically like a traditional home loan. What makes it different is the fact that the buyer can only get financing through the seller’s lender.

Lenders must approve an assumable mortgage, so sellers run the risk of having to pay the full remaining balance upfront if it is done without approval.

One major advantage of an assumable mortgage is the absence of an appraisal requirement, as skipping an appraisal can save buyers hundreds of dollars. Buyers should still order a home inspection, though, to check for any repair issues with the property. Once the buyer closes on the home, the seller will no longer be liable for the mortgage payments.

What home loans are assumable?

Loans insured by the Federal Housing Administration (FHA) or backed by the Department of Veterans Affairs (VA) or United States Department of Agriculture (USDA) are assumable as long as specific requirements are satisfied. For most FHA and VA loans, a seller must obtain lender approval for an assumable mortgage.

FHA loans

Newer FHA loans require both buyer and seller to meet specific criteria for an assumable mortgage; for example, sellers must live in the home as a primary residence for a set amount of time. Additionally, buyers must follow the standard FHA loan application process.

FHA mortgages are more accessible for buyers with a lower credit score, as most lenders require a minimum score of 580 for FHA loan approval. For instance, some allow for a credit score as low as 500 if the borrower can make a 10% down payment. FHA loans require a down payment of only 3.5% of the purchase price if the borrower’s credit score is 580 or above.

VA loans

VA loans — which come with several perks, the most notable being a zero down payment requirement — are available to:

• Active duty service members
• Veterans
• Members of the National Guard and Army Reserve
• Surviving spouses who all meet certain requirements for eligibility

A buyer who’s a surviving spouse or doesn’t qualify as a qualified current or former military service member can apply for a VA loan assumption. If someone who doesn’t usually qualify for a VA loan takes over the loan, the seller loses their VA entitlement.

Depending on how the loan was initially established, a lender may also need to have the loan approved by the VA Regional Loan Center. This step requires extra time to process paperwork.

In very rare cases, a buyer might come across a specific type of assumable loan that applies to any VA loan closed on or before March 1, 1988. Sellers who fall in this category don’t need to obtain lender approval; however, they may still be liable for making payments if a buyer fails to pay their mortgage on time, so it’s best to still get a liability release from the VA.

USDA loans

USDA loans, like VA loans, require no down payment and are assumable. Borrowers typically need approval from their lender and the USDA to assume these loans, except in successor-in-interest cases. In these instances, the seller maintains responsibility for the mortgage until the buyer assumes liability.

Rocket Mortgage^® doesn’t offer USDA loans at this time, but we are here to help you explore your options.

What loans are not assumable?

Not all home loans are assumable. In fact, most conventional mortgages — those not backed by a government agency, but rather by a private lender — aren’t assumable. One exception with conventional loans occurs if someone is a “successor in interest,” in which the property is transferred to them during another person’s lifetime or after that person’s death. Additionally, adjustable-rate mortgages may be assumable once they’ve moved past their initial fixed period.

Pros and cons of assumable mortgages

Before deciding if an assumable mortgage is worth pursuing, you’ll want to consider any additional costs, paperwork and timeframes needed to process the loan. While it can be beneficial to avoid higher interest rates through the seller’s lender, you should fully understand the pros and cons of this type of mortgage before formally committing to one.

Pros

Here are some advantages of assumable mortgages:

• A home may be easier to sell: Assumable mortgages may be attractive because of the simplified selling process and the possibility of lower interest rates — creating benefits for both buyer and seller.
• The potential for buyers to save money: Lower interest rates may save buyers thousands of dollars over the life of their loan. Plus, without the need for an appraisal, buyers can save money upfront.
• Limited closing costs: When a home buyer assumes a mortgage, the FHA, VA and USDA limit how much they’ll have to pay in closing costs. As a result, a home purchase can be more affordable.

Cons

Here are some disadvantages of assumable mortgages:

• No opportunity to shop around: Buyers are limited to the original loan conditions set by the seller’s lender. As a result, the buyer’s ability to search for a more competitive mortgage rate and repayment term is limited.
• The potential to not be approved: For most assumptions, buyers must meet certain requirements of the lender and/or investor in the mortgage. For example, newer FHA loans require both sellers and buyers to both satisfy specific FHA criteria.

How to qualify for an assumable mortgage loan

Follow the steps below to start the process of assuming a mortgage loan:

1. Find a property you want to purchase and verify that the mortgage loan attached to the home is assumable.
2. Make sure your credit score and debt-to-income ratio (DTI) meet the minimum requirements for this type of real estate transaction.
3. Compile all necessary documentation to process the loan. This includes employment history, explanations of income for each loan applicant and asset verification for a down payment.
4. Fill out and submit an application to obtain an assumable mortgage.

During the closing process, pay closing costs and fill out additional paperwork as required by the lender.

How much does it cost to assume a mortgage?

The cost to assume a mortgage loan will vary with the investor in the mortgage, as well as the policies of the lender approving the assumption. Fees typically associated with the assumption are based on either a percentage of the unpaid principal balance or a flat amount. Assumption fees may be limited by state law, so check the regulations in your area.

Those assuming VA loans will have to pay the VA funding fee in most cases. That fee is 0.5% of the remaining mortgage balance for assumptions. You’re exempt from paying the funding fee if:

• You currently receive VA disability payments
• You’re a surviving spouse who receives Dependency and Indemnity Compensation benefits
• You’re an active-duty service member who returned to duty after receiving a Purple Heart

Assuming a mortgage after divorce or death

Sometimes a home buyer assumes a mortgage when a property owner passes away and an heir takes over a loan, or when a divorcing couple decides that one spouse will keep the house and assume sole ownership of the mortgage.

Much like with a standard home loan application, the lender will review the financial qualifications of the person taking over the assumable mortgage. Specifically, the lender will examine at the borrower’s income statements, asset lists and creditworthiness to ensure they can make the minimum monthly payments on the loan.

The bottom line: Is an assumable loan a good option for you?

Mortgage assumption can be a valuable option if you’re looking for a lower interest rate and want to simplify the home buying process. If you trust the seller and their lender, an assumable mortgage — even with the risks it presents — could be the way to go.

Ready to begin your home buying journey? Get started with Rocket Mortgage today!