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Goldfinger

Financing The New House -- What Is The Better Deal?

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My earlier message that I moved one down (see below) had no responses so far. I guess it was too long.

Well, here a short question.

In the US, if you have a mortgage on a house, and you sell it, and buy another one. Can you just transfer the

old mortgage to the new house?

Cheers.

Edited by Goldfinger

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Hi everyone

A friend of mine in the US has the intention to buy the house of her mother, and selling her own. She asked me on some advice

about alternatives of financing it. Obviously, I am no financial planner or advisor, but I tried to make a couple of points which

I post below. If anyone of you has comments or ideas on the situation, it would be very much appreciated. I know that some

here are living in the US or have lived there, and have much more insight in the market there than I have.

Some info: she owns 14,000 of the house of her mother already, the rest belongs to her sibblings of whom she would

buy it. On her old house is a mortgage that would run another 15 years. And here is what I wrote to her.

--------------------------

--------------------------

First, I want to sum up the facts (please correct me, if I got something wrong).

Your house:

-----------

offer = 235,000 (appraised @ 225,000)

equity = Offer - what you owe = 235,000 - 144,000 = 91,000

mortgage @ 5.45% (fixed rate, I assume), another 15 years to go

payments = 884.00/month

Your mother's house:

--------------------

appraised @ 300,000

equity = 14,000 (286,000 would have to be paid to your sibblings)

mortgage @ 6.58% (fixed rate, again)

down payment >= 20%

Other savings:

--------------

savings = 107,000

interest @ 5.45%

First some general remarks. That you have an offer 10,000 higher than the

appraised value of your house is very good in (overall) a more and more

difficult property market in the US. I assume that you actually intend to

buy your mother's house, and that you would be happy to pay the appraised

value (minus your part). In other words, the problem is more how to finance

it and what it would mean for you in terms of monthly payments etc. The

important questions seem to be:

(1) What down payment should be paid for the new house?

(2) What should happen with the old mortgage?

(3) What to do with your savings?

Since I don't know the exact contractual terms of these mortgages and I am

also not very knowledgeable about the US mortgage market, I can only explain

scenarios that seem possible, and you would have to clarify with the involved

parties (mortgage lenders/banks) whether they are applicable (and reasonable)

in your particular situation.

Three simple scenarios. In general, solutions somewhere inbetween would be

possible as well.

Scenario 1

----------

(A)

You sell your house for 235,000, pay back the outstanding amount (144,000,

assuming that there are no early payment fees) and buy your mother's house

(for 286,000), using the extracted equity (91,000) as down payment. At 6.58%,

I would arrive at following payments (according to my mortgage calculator):

15y = 1,707/month (mortgage)

20y = 1,463/month

25y = 1,326/month

Regarding the 15 year mortgage, it seems to be a quite high payment since

it is almost half of what you take home per month. On the other hand, you

would possibly like to pay off the new house in the same time that would be

left on the old mortgage.

( B )

You could use the interest from your savings (107,000) to pay towards the

mortgage. At 5.45%, I calculate approx. 480.00 per month in interest, so your

mortage payments minus the interest would be

15y = 1,227/month (mortgage - interest income)

20y = 983/month

25y = 882/month

These are the monthly amounts your salary/pension would have to support. At

the same time you would preserve your savings of 107,000. But you would not

accumulate any interest.

Scenario 2

----------

You sell your house for 235,000, pay back the outstanding amount (144,000)

and buy your mother's house, using the extracted equity (91,000) plus your

savings of 107,000 as a down payment. At 6.58%, I would arrive at following

payments:

15y = 770/month

20y = 660/month

25y = 598/month

In this scenario, your savings are obviously gone. However, let's consider

the 15 year case. In scenario 1 ( B ) you would pay 1,227/month. After 15 years

the house would be yours and you would have your savings of 107,000 (interest

was used for mortgage payments).

In scenario 2, your payments would be 770/month. If you paid the difference

to 1 ( B ), which is 457.00 (= 1,227 - 770) every month in a savings account at

the original 5.45% interest, you would (according to my calculations) end up

with 126,010 after 15 years. So, altogether you would be 19,010 better off

than in 1 ( B ), given you pay the same 1,227/month towards mortgage and savings.

Scenario 3

----------

You sell your house for 235,000, keep the old mortgage (if that is possible;

the new house would be the new collateral) and buy your mother's house,

using the proceeds from the sale (235,000) plus 51,000 (=286,000-235,000) of

your savings. In this case you don't need a new mortgage, and you still have

56,000 (107,000-51,000) in savings. The payments are therefore

15y = 884/month (old mortgage)

In Scenario 3, you could again save 1,227-884= 343/month and put it on the

savings account. Together with the 56,000 that are still in it, you would

end up with 150,576 after 15 years @ 5.45% interest. You therefore save

43,876 when compared with 1 ( B ), and 24,566 when compared with 2. Scenario

3 could have additional benefits if the repayment of the outstanding old

mortgage in 1 and 2 would come along with additional fees (that could be

substantial). You might save arrangement fees for the new mortgage as well.

In my opinion, scenario 3 (IF possible), might be the best solution, since

you keep the old mortgage (with the better interest rate) and you use only

half of your savings for the new (bigger) house.

The advantage of the scenarios 2 and 3 comes from the interest differential

between the new mortgage (higher), and the savings account and the old mort-

gage (lower). It is beneficial for you to take out a smaller new mortgage

since you're 'saving' 6.58% on the new mortgage, but only 5.45% on the savings

account/old mortgage. It might be possible to find a better deal (interest)

for the savings account. But then, after all, banks usually charge you more

for loans than they reward you for savings.

As I said, a solution somewhere inbetween might be possible as well. For

instance, if scenario 3 was not possible, but you still wanted to have a

certain amount of 'liquid' cash on the side (but not the entire 107,000), you

could use, say, 50,000, towards the house and keep only 57,000 in the savings

account. The financial advantage would be smaller (than in 2), but still there.

I can see why you would possibly like to have savings (and not only a smaller

mortgage), since in case you would need a larger sum of cash you would have to

remortgage the house or take out an unsecured loan if all savings/equity was

in the house.

In general, I would only take out a fixed rate mortgage. It is not clear

which direction interest rates finally will take, but they are still low in

a historical context. It also gives you the best planning security.

The question how much savings you should keep (rather than putting towards

the mortgage) depends very much on which direction interest rates will take.

If interest rates go much higher from here, and your savings account has a

variable rate, but your mortgage a fixed rate, you would finally earn more

interest on your savings than you would lose on the mortgage. However, the

exact opposite is possible as well.

I hope my calculations helped in the sense that you have a better idea of

what might be possible. For instance, whether scenario 3 is possible would

have to be clarified with your old mortgage lender. Also, I don't know how

flexible the savings account is that you have, e.g. whether the rates are

flexible, and whether you can easily extract or pay in money - which might

play a role as well.

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