At first glance, a mortgage loan sounds like the perfect solution to the problem that home buyers have been facing lately.
With mortgage rates now closer to 6.5% instead of 3%, housing has become more difficult. It is now at its worst level in decades.
With housing prices constantly rising, many potential buyers are essentially locked out of the housing market.
But with the credit you might be thinking about, you can take out a seller’s mortgage, these days it’s usually very low, sometimes even sub-3%.
While that all sounds well and good, there’s a much bigger (real) problem: underpayment.
Wait, How Much is the Down Payment?
As noted, a reverse mortgage allows you to take out a seller’s mortgage. So the loan amount, the remaining loan balance, and the remaining loan term are all up to you.
For example, say a mortgage broker got a 2.75% 30-year fixed five years ago when mortgage rates hit record lows. Let’s pretend the loan amount was $500,000.
Today, they sold the property and the remaining balance is approximately $442,000. The remaining loan term is 25 years.
It would be nice to get that low rate mortgage loan from the seller instead of paying the 6.5% rate.
Here is the tricky part. The difference between the new sales price and the outstanding loan amount.
Let’s pretend the seller listed the property for $700,000. Remember, housing prices have increased over the past decade, and even more so than the past five years.
In some metros, they have increased by almost 50% since 2019. So a $700,000 price tag wouldn’t be unreasonable, even if the seller was originally paying closer to $500,000.
Do You Have $250,000 Handy?
When you put these numbers together, a prospective home buyer would need more than $250,000 for a down payment.
Many don’t even have 5% down, let alone 20% down. This is close to 36%!
Bridging the gap between the new purchase price and the existing loan amount. Using simple math, that’s about $258,000.
While that may sound crazy, just take a look at the original list above from Roam, which lists properties with mortgages that can be considered.
Not only is it a huge amount of money, it also means that a good amount of the purchase price will not enjoy the 2.75% financing.
It will be less than any amount of the second mortgage, or it will simply be tied to the home and illiquid (assuming the buyer can pay it all out of pocket).
Let’s pretend they can get a second loan for a good chunk of it, maybe $200,000.
If we compound 2.75% on the first mortgage of $442,000 and say 8% on the second mortgage of $200,000, the compounded interest rate is approximately 4.4%.
Yes, it is less than 6.5%, but not that low. And most mortgage rate forecasts put the 30-year fixed rate in the 5s next year.
If you pay points at closing on the amount and repurchase term, you may be able to get a low rate of 5%, or possibly something in the high-4s, assuming the forecasts hold.
Then it becomes very difficult to try to take out a mortgage.
Are You Choosing a Home Loan?
Another issue here is that you can start looking at homes with cheap mortgages, which can be considered mortgages.
Instead of considering properties you might like better. At that time, you can end up choosing a house because of the loan.
And that turns out to be a slippery slope to losing sight of why you’re buying a home to begin with.
If you bought a home and you happen to find out that a loan is being considered, that’s probably the icing on the cake.
But if you’re the only homebuyer with a mortgage to consider, it’s probably not the best move.
Also be aware that the loan appraisal process can be difficult and the seller may list higher knowing that he is offering “property.”
So in the end, once you’ve weighed in on the combined price and the maximum selling price, and it might be a bad place even in your situation, you might wonder if it’s really a deal.
Before creating this site, I worked as an account manager for a real estate broker in Los Angeles. My experiences in the early 2000s inspired me to start writing about mortgages 18 years ago to help prospective (and existing) home buyers better navigate the mortgage process. Follow me on Twitter for the latest.
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