Assumptions Make Sense Again
February 28, 2022
Existing FHA and VA mortgages are assumable at the note rate to owner-occupied buyers who qualify. This can be an alternative to paying higher, current rates and benefit buyers with lower closing costs while saving money on the payment.
For the last 20 years, rates have been steadily coming down and there was no reason to qualify for the assumption when a new loan had a lower interest rate.
Assuming an FHA or VA loan with a lower interest rate will obviously mean lower payments but it will also build equity faster because the amortization schedule is advanced from a new 30-year mortgage. Another benefit is that the acquisition costs on an assumption are much lower than starting a new loan.
In the example in Table One, a couple bought a home two years ago for $400,000 with a 3% FHA mortgage that has principal and interest payments of $1,656. It is now worth $435,000.
Let’s look at a hypothetical situation involving the sale of this home after two years. The savvy listing agent explains that the home may have additional marketability due to the assumability of the FHA mortgage in place.
In scenario #1, the buyer purchases it for $435,000 with 10% down payment at the then, current rate of 5% for 30 years. The principal and interest payment is $2,102. If the home appreciates at 4% annually the equity will be $230,989 in seven years.
In scenario #2, the buyer purchases it at the same price with the same down payment but assumes the 3% mortgage with 28 years remaining. Since he doesn’t have enough cash to buy the equity, he gets a second mortgage for the balance at 5%. The combination of the payments on the first and second are $1,739 or $363 less than the payments in scenario #1.
In seven years, the $363 savings accumulated to $30,492. The future equity is $21,457 larger on the assumption because the first mortgage is at a lower rate and the loan is amortizing faster. In this example, the buyer is much better off assuming the FHA mortgage.
There will be a challenge in identifying which homes for sale have assumable FHA or VA mortgages because for decades it didn’t make much difference to list it in the description. Many MLS’s are not even including fields for existing mortgages.
Finding the “Right” home for a buyer is important but equally important is finding the “Right” financing. Not all agents have the training or the tools to identify the possible opportunities for buyers but the ones who do are invaluable.