More than three-quarters of Americans who bought homes in 2018 did so with mortgages as opposed to cash.
Most mortgages are 30-year loans, but the average length of time a homeowner in the US will stay in a single-family home is only 12 years. That means that many Americans are selling a house with a mortgage that is still not fully paid off.
So how does that work exactly? Can you sell your house before paying off the mortgage?
Let's dive deep into it and learn what happens when you're selling a house with a mortgage.
How Do Mortgages Work?
A mortgage is a loan for real estate or property from a lender. As the borrower, you agree to make payments over time in return for upfront cash to make your real estate purchase.
Mortgages are usually paid back over 30 years, but it isn't unheard of for people to sign on for 15 or even 40-year mortgages.
Lenders aren't just loaning you money out of the kindness of their hearts. When you take on a mortgage, you agree to pay interest on the loan to the lender. Since mortgage loans tend to be amortized loans, at the beginning of the loan you are largely paying interest and hardly paying towards the principal.
The amount of money you pay in interest depends on the interest rate you agreed to at the time you took on the mortgage. Interest rates can either be fixed or adjustable rates, and there are pros and cons to both.
This means that if you wanted to sell your house after only owning it for a couple of years, you might realize that you've paid down very little of the loan. It can be a good idea to play around with an amortization calculator to help understand the nature of amortized loans.
What Happens if You Are Selling a House with a Mortgage?
If you've decided to sell a house that you are still paying a mortgage on, you're not alone. You are probably wondering what happens to your mortgage when your house sells. There are a number of different scenarios that can play out depending on how much money you still owe on your house and how much you can sell it for.
Contact Your Lender to Learn Exactly How Much You Owe
When you are listing your home for sale, you should ask your lender for your payoff amount. The payoff amount is not the same thing as your remaining loan balance. It will be more accurate than the remaining loan balance, including the amount of accrued interest calculated for a specific closing date.
The payoff amount you receive is a quote that only lasts for a certain number of days. Payoff amount quotes are usually applicable for somewhere between 10 and 30 days.
You'll also want to check with your lender to find out if there is a prepayment penalty on your mortgage. If you're choosing to sell your house shortly after having bought it, it's possible your lender will charge you additional fees. Depending on how much they're charging you, it could affect whether or not selling your house it's the right financial decision for you.
The Due-On-Sale Clause is Triggered Upon Sale or Transfer of House
When you sell or transfer your home, that usually triggers the due-on-sale clause from when you signed up for the mortgage. This means that the lender is allowed to demand full repayment of the loan at the time of the sale. So, if you have a mortgage payment while house selling, the lender will want to collect the rest of what you owe right away.
So how does the lender receive the payoff amount?
In a best-case scenario, you'll have enough equity to profit after paying the loan balance and closing costs.
When you close on the sale of your house, the closing costs and the remaining balance of your loan will be paid for by the buyer's funds. The rest of the funds are then paid to you.
What is Equity?
Equity is the portion of your home or property that you actually own. When we buy a house, we like to think that it's ours, but the reality is that we share ownership with the bank until the mortgage is paid off.
At the time of the sale of your house, after paying off the loan and subtracting other selling costs, the remaining figure is your equity.
If you have a home equity loan, have unpaid liens on your property, or you've taken out a home equity line of credit, then it's more complicated than this to figure out how much equity you have in your property.
There are two different types of equity, home investment equity and earned equity. Together they determine your entire home equity.
The way you gain home investment equity is through actual financial investment. You can determine your home investment equity by adding up the amount you've paid towards your mortgage principal, the amount of your original down payment, and the cost of renovations or upgrades you've made while you owned the property.
Earned equity, on the other hand, is equity that's not realized until the sale of your home. You gain earned equity if the value of homes increases in your local real estate market, and through any additional return on investment gained from your renovations or home upgrades.
What Happens to Equity When You Sell Your House?
When you go to sell your home, the buyer's funds are divided up between a number of different parties.
The money goes to repay the mortgage lender for the remainder of the loan and then any other loans such as home equity loans are paid off. The buyer's funds are also used to pay closing costs which can include the commission of the real estate agents, escrow fees, taxes, and prorated Home Owner’s Association fees.
Whatever's left over after that is your profit. The more equity you had in the property, the more you'll be able to profit from the sale.
When You Don't Have Enough Equity to Pay Off Your Mortgage
If you don't have enough equity to pay off your mortgage, they say that your mortgage is underwater. Also referred to as having negative equity, this is not a position people hope to find themselves in.
If you're selling a house with a mortgage and your mortgage is underwater, you may want to try and wait to sell your house during a season when home prices in your area are more valued. If you absolutely cannot wait to sell your house at a better time, you have a couple of options.
If your house sells for less than you owe on the mortgage, your first option is to pay off the rest of the loan yourself at the time of the closing. Maybe there's a small amount left on the loan and it's worth it to you to pay out of pocket to get rid of the property. Depending on your circumstances, though, this may or may not be possible.
The other option you have is to try and sell with a short sale. In order to do this, you have to reach out to your bank and see if they'll agree to let you sell your home for less than the amount that you owe on the mortgage.
This is not a particularly desirable option as it can make it difficult for you to buy another home later on. Not only will it negatively affect your credit, which is important to obtaining a mortgage, but you'll also have to forfeit your original down payment amount.
Selling a House with a Mortgage is More Common Than You'd Think
Selling your home can be a complicated and stressful process. All of a sudden, your mind is filled with questions you'd never thought of before. Can I sell a house with a mortgage? How do I go about selling my mortgage note?
Even though it seems daunting, selling a house with a mortgage is more common than you might have thought. Only 32 percent of Americans live in homes for which they've paid off their mortgage completely. The rest of us pay mortgages and have more complicated numbers to crunch when we're thinking about selling.
Did you find this article on selling a house with mortgage helpful? If so, be sure to check out the rest of our blog for more great real estate info!