Loan Modification

FHA Mortgages & Assumptions

By Peter G. Miller

Writing in the Washington Post, Jack Gutentag says that “the assumability of FHA mortgages could have significant value to borrowers today, in some cases equaling or exceeding the cost of FHA mortgage insurance.”

However, says Gutentag, a professor of finance emeritus at the Wharton School of the University of Pennsylvania, “the borrowers for whom assumability has the greatest potential value are those who expect to sell their house within three to seven years. Short of three years, it is not clear that interest rates will be significantly higher than they are today, and after seven years, it is not clear that assumability will have significant value to home buyers.” (See: Assumability: A hidden potential value to FHA loans, February 20, 2010)

I happen to be an admirer of Gutentag, but I’m not convinced about this one. To understand why, let’s look at the premise:

“Loans insured by the FHA,” writes Gutentag, “are assumable; conventional loans, with a few exceptions, are not. That means that a home buyer who finances the purchase with an FHA-insured loan and who sells the house later, when interest rates are higher, will be able to offer a potential buyer the right to assume his low-rate FHA loan.

“After approval of the buyer by the FHA, the buyer would assume all the obligations of the mortgage upon the sale of the property, and the seller would be relieved of liability. It would just as if the loan had been made to the buyer.”

Assumptions

In basic terms, as I have written elsewhere, there are two forms of assumptions. Either loans are “freely assumable” or they’re “quaified” assumptions.

If a loan is freely assumable it means that a buyer can take over the loan without the need for any lender approval. Most loans used to be this way but the good times ended for FHA mortgage borrowers on December 15, 1989. Since then all FHA loans — like virtually all mortgages made in the private sector — have been “qualified assumptions” meaning that the lender must approve any replacement borrower.

The key point here is the phrase “after approval of the buyer by the FHA.” In other words, FHA loans are no more and no less assumable than other mortgages. They require lender approval of the new borrower. Lenders can say no and they can also say yes — perhaps if the new borrower will agree to an assumption fee or a higher rate of interest.

The FHA mortgage program has many characteristics which make it attractive for borrowers, but it does not have a lock on qualified assumptions. You can ask any lender if they will allow the assumption of a loan — most will instantly say no but some might say yes, especially if they can get a stronger borrower to be responsible for the debt.

Full post as published by FHA Mortgage Guide on February 22, 2010 (boomark / email).