If you’re behind on your mortgage payments and want to sign over the deed to your home to a new owner, one possible option to avoid foreclosure is an assumption. If the new owner assumes the loan, that person becomes personally liable on the debt.
Or, if you inherit a mortgaged property, or get ownership through a divorce or other intra-family transfer, but can’t afford the payments, assuming the loan as part of a loan modification might allow you to keep the property.
Before you can fully understand what it means to assume a loan, you have to understand the difference between a promissory note and mortgage or deed of trust. (For the purpose of this article, the terms “mortgage” and “deed of trust” are used interchangeably.)
People often use the term “mortgage” to refer to both the promissory note and mortgage. But the note is the document that creates the obligation to repay the loan. The mortgage, on the other hand, gives the lender a way to enforce that promise—that is, the lender may foreclose and use the proceeds from the foreclosure sale to repay the loan.
Following a foreclosure, in a majority of states, the lender can go after the borrower for the deficiency between the foreclosure sale price and the borrower’s total debt. The promissory note establishes a borrower’s liability for the deficiency.
An assumption is a transaction where a new person takes over financial liability for the loan—either with or without a release of the original borrower’s liability.
Here’s how an assumption generally works: Say, you want to sell your home and deed it to another party, with that new owner taking over responsibility for repaying the loan you took out. If an assumption is allowed, the lender will usually require the new owner to qualify and go through an approval process to assume loan. The lender will probably run a credit check on the buyer, as well as verify the buyer's employment and income. Once the assumption is approved and the necessary documents are signed, the buyer steps into your (the original borrower's) shoes and starts making the monthly payments and complying with other terms of the existing loan. The loan terms, interest rate, principal balance, and monthly payments stay the same. You (the seller or transferor) will remain liable for the debt unless the lender releases you from this obligation. The new homeowner also takes on personal liability for the debt.
In some assumptions, the lender will release the original borrower from the obligation created by the promissory note. But in other cases, the original borrower remains liable on the note. So, depending on state law and the circumstances, if the new owner stops making mortgage payments and loses the home to foreclosure, the lender might come after the original borrower—along with the person who assumed liability—for a deficiency judgment to collect the debt.
If the paperwork states that the loan is assumable, then you can transfer the property and loan to a new owner. If the loan contract is silent on this matter, though, in most states, the loan is considered assumable.
But many, if not most, mortgage contracts contain what’s called a “due-on-sale” provision. This clause states that if the property is transferred to a new owner, then the full loan balance can be accelerated, which means the entire balance of the loan must be repaid. Generally, when a mortgage has a due-on-sale clause, the loan can’t be assumed.
To find out if your loan is subject to a due-on-sale clause, check your mortgage. Be aware that the paperwork might not specifically use the words “due on sale.” It could refer to a “transfer of the property” or something similar.
The federal Garn-St. Germain Depository Institutions Act of 1982 generally allows due-on-sale clauses in mortgage contracts. (This law gave states that had prior due-on-sale restrictions three years to reenact or enact new restrictions, though only a couple of states acted within this time period. In those states, federal law doesn’t preempt due-on-sale provisions in some specific kinds of loans.)
But the Garn-St. Germain Act bars enforcement of a due-on-sale clause after some kinds of property transfers, including, but not limited to:
So, if you get ownership of real estate as a result of one of these kinds of transactions, the lender can't enforce a due-on-sale clause. You may make the payments on the loan (even though you weren't an original borrower) and you can assume the debt if you want to.
Also, after a Garn-exempt transfer, the ability-to-pay rule doesn’t apply, and the person assuming the loan shouldn’t have to go through an underwriting process or credit screening, except in some instances, like in the case of a Fannie Mae loan, when the original borrower wants a release of liability.
Sometimes a lender will agree to forgo the enforcement of the due-on-sale provision if it means it will start receiving a steady stream of payments from someone. The lender might also agree to an assumption if the current market value of the property is less than the outstanding indebtedness, and the purchaser is willing to make up the difference in cash.
If a borrower is behind in mortgage payments at the time of the transfer, then the person assuming the loan could have to cure the default to prevent the foreclosure. Usually, the new owner will either pay the overdue amount in full—called "reinstating" the loan—or come to an agreement with the lender to catch up on the past-due amounts in a repayment plan or as part of a modification.
An assumption is only one way to prevent a foreclosure. If you’re struggling to make your mortgage payments, your home is underwater, or foreclosure is imminent, consider talking to a foreclosure attorney to learn more about your options. A HUD-approved housing counselor is also an excellent resource for information about loss mitigation options.