QUESTION: I have a first trust on our house at 5 1/4 percent which is paid down to a balance of $4,000. There is a second trust at 15 percent with a balance of about $7,000. It is my intention to sell the house in the next two to four years, and it is my understanding that a home with a large assumable loan will sell much more easily. I have been told that I can get a new loan for 85 percent of market value (which is about $90,000), and closing costs of the loan would be $2,000 to $4,000. I am in the 40 percent tax bracket, and want your advice about refinancing.
ANSWER: You have asked two different questions, and both deserve detailed answers.
First, let's talk about refinancing. As my readers well know, I long have been an advocate of refinancing, especially if its primary objective is to pull out some of the "dead" money which is sitting as equity in your property. There clearly may be tax advantages to refinancing.
I suspect that if you do the numbers on your particular transaction, you will find that if you refinance at, for example, $75,000 at 12 percent, your new monthly payment--after taxes--may be very close to your current payments.
Because you have indicated that you have a 5 1/4 percent loan, I suspect that you took it out in the early 1960s. As you know from looking at your yearly mortgage loan statement, interest payments start to decrease and principal payments increase after about seven years. While you are the proud owner of a $4,000 first mortgage, you have almost $80,000 of dead equity that is merely sitting in your property. I strongly recommend that you give serious consideration to refinancing.
But you also have indicated that you intend to sell the house within a few years. When you refinance, you should recognize that you will have to pay most--if not all--of the settlement costs again, just as if you are purchasing the property. In some Maryland counties, for example, you even have to pay a recordation tax, which is often calculated at the rate of $4.40 per $1,000 of the difference between the remaining balance on your old mortgage and the value of the new one. Thus, settlement costs should be taken into consideration in your decision to refinance. Points, for example, may be deductible. However, because you are refinancing, you will have to pay both the "buyer" and the "seller" points, and these will not all be deductible.
Thus, before you commit yourself to a refinancing, carefully review all of the settlement costs to make sure that the new loan is really worth pursuing. In your particular case, because you can pull out a lot of equity and can take advantage of significant tax benefits, it certainly makes sense for you to consider refinancing.
But let's look at the second part of your question: Does an assumable mortgage make property easier to sell?
There is no easy answer to this question. It is safer to say that the answer is not always yes.
For example, say your house is worth $100,000, and you have an old assumable mortgage with a balance of $40,000 and an interest rate of 9 percent. At first blush, the 9 percent rate sounds very attractive. But this means that your buyer will have to come up with $60,000 cash, or you will have to take back a fairly large second mortgage. It also means that the buyer may not be able to benefit from the tax advantages of a higher-interest loan, as discussed earlier in this column.
In our example, because your buyer has to come up with additional mortgage money, it will be impossible for your buyer to obtain a new first trust, unless the existing first is either paid off (which defeats the purpose of the assumability) or the first-trust lender agrees to "subordinate" to a new first trust. Subordination, in simple terms, means that the old first trust becomes a second trust--with potentially less security. It is highly doubtful that any existing first-trust lender will agree to such a subordination.
There is a possibility of using the existing assumable first trust and creating a wraparound mortgage, but this is the topic of another column.
Suffice it to say, the mere fact that there is an assumable mortgage on the property does not automatically guarantee that your house is more saleable. Much depends on the amount of that existing first trust, as well as the tax benefits available to a potential purchaser. Many purchasers might find it to their advantage to obtain a new loan, rather than to assume your existing loan.
However, in your particular case, because you will obtain the benefit of pulling out money by refinancing, I strongly recommend that you consider obtaining an assumable mortgage. You should know, however, that there are only two such mortgages available in today's market: a VA loan and an FHA loan. All other loans are not assumable without the permission of the lender, because they contain the "due-on-sale" clause. This means that the entire mortgage becomes due when the property is sold..
Will a lender with a due-on-sale clause consent to the assumption? Generally the answer is no.