Loan Assumption Myths, Mysteries & Misconceptions in Divorce

Wonderful to hear from Jody Johnson, one of Texas’s finest legal professionals, and family law specialist. Read this question - one of the most prevalent issues in divorce in these days of high interest rates. [I redacted personal Non-Public Information (NPI), of course, so that I could publish for all you guys.]

Hi Noel -

I hope you are well. I have a question.

I have a small divorce case in which the house is really the only asset.  Wife wants to keep the house, and my guy is fine with that but he wants off the liability and his share of the equity.

I don't believe Wife can qualify for a refi.  I've tried to get the other attorney to work with you, but the Wife insists on going through XYZ Bank (I think) who has their mortgage.  They believe that if Wife qualifies to assume the mortgage in her own name then that solves the problem?  Can you explain the impact of that for Husband v. refinance?  Thank you!

Jody

Best regards,

Jody L. Johnson                                        

Board Certified - Family Law Texas Board of Legal Specialization

Master Credentialed Collaborative Divorce Attorney – Collaborative Divorce Texas

5151 Headquarters Drive, Suite 255 | Plano, TX 75024 | (972) 464-2727

It’s always wonderful to hear from long-time friends who have built a great reputation for excellence in law practice. Check her out HERE. She is top quality.

So, can a divorcing person get a loan assumption?

Spoiler Alert: The answer is almost never. But, you need to know why.

• - No buyouts in a loan assumption
• - Homeowner has to qualify just like for a new mortgage
• - If a divorce is in the works, the terms have to be disclosed and factored into underwriting because it introduces debt obligations a possible reduction in income and more
• - Takes 6 months minimum to find out if they qualify

Here’s how to handle the question when your client is on the hook for the mortgage.

Let me break it down and respond issue by issue.

Jody’s Question/Comment:

Facts:

• I have a small divorce case in which the house is really the only asset. 

My Response:

This issue – and its solution - is all the more crucial when there are no other assets to offset (or pay for) a buy-out of spouse’s interest in the property. It is already a critical issue because the liability for the existing mortgage debt is your client’s. And, that should always be resolved to the satisfaction of the obligor on a debt. This fact means that mortgage financing is typically the only way to solve the issue. And, that means “DO NOT TRY THIS AT HOME.” Too many folks qualify or disqualify themselves. So, thank you for helping your client solve this problem in advance.

Jody’s Question/Comment:

• Wife wants to keep the house,
• my guy is fine with that; but, he wants off the liability and his share of the equity.

My Response:

This very common scenario means that when the “departing spouse” and his attorney should realize that they are in the position of “Seller,” as in the Seller in a real estate sales/purchase transaction. Your client is not selling his house. Rather, he is selling his interest in his house.

And, this contemplated transaction triggers ALL the mortgage and real estate issues that pertain to a sales/purchase transaction AND MORE.

First of all, do what Sellers’ Real Estate Agents do – all the time, without fail: Require a bona fide loan approval before even showing their client an offer. Buyers’ agents also require this of their clients before showing potential buyers the property.

Tell opposing: we (the sellers) require a Conditional Approval from a lender who has done diligence (i.e., underwriting) stating

• That the loan has been underwritten, “credit” docs have been reviewed, income and assets have been reviewed
  • When the lender can close the loan and what outstanding conditions remain; but, mostly
  • How the contemplated divorce settlement has been reflected in the loan application.
    • Is the buyout amount to your client included in the underwriting?
    • Are the funds coming to your client via a “cash out” loan or a regular (“rate and term”) loan with an Owelty lien paid to your client as one of the valid liens against the property? And is the underlying mortgage loan/lien being paid off as well?
• • Has the appraisal been ordered, received and underwritten?
  • I’ll help you with that.

• And when you get this approval statement, send it to me. I’ll cut through the B.S. and let you know if it is legitimate and viable.

If I were answering as the lender, I might redact our underwriting sheet (the feedback from the underwriter which states all of those things in “mortgage speak”) and send that over. This would work if someone like me is on the receiving end and knows how to interpret the underwriter’s feedback.

The point is, all of these questions are answerable without revealing personal NPI or any element of the loan application which should not be shared with anyone else.

Here’s something else Seller’s Agents do for their sellers.

Not only do they require a valid approval statement, they require that the potential buyer qualify with their preferred lender. They do not have to use the agent’s preferred lender – they just have to qualify with that lender.

This strategy was invented by mortgage peeps as an ingenious way to fish for new business

• Mortgage peeps told realtors, when you get an approval letter, you don’t know whether or not you can trust it, do you? (Realtors have had too many “approval letters” fall flat after their property was tied up in a contract, expecting to close on contract date). They know they are often not worth the paper they’re written on.

• So, mortgage peeps used this as a foot-in-the-door so that they could compete for the loan. They would let the Seller’s agent know if the potential buyer was “good to go” or if there were problems, and if they could be solved, etc. Mortgage people cannot disclose personal Non-Public Information (NPI). So they could not tell the agent “their credit isn’t good” or “they don’t make enough money.” They can only say “I can approve the loan” or “I cannot approve the loan (loan denial).”

• This strategy is IDEAL for family law cases. Lawyers and judges and divorcing folks have no idea about mortgage financing approval. And, it’s dangerous for them to presume loan approvals or denials. They especially do not know the unique, proprietary strategies that we use to qualify more divorcing folks than ever. Even when the biggest banks and lenders in the country could not get their loan done.

Now, I’m just shamelessly hawking my wares. But, it’s true – this is a viable strategy that works in the real world of real estate transactions.

You just have to insist on it.

Think about it - You have something valuable to sell – in this case, the largest asset a married couple has, equity in the marital residence. You simply need to know that the “contract” is going to close and your client is going to get paid.

Jody’s Question/Comment:

• I don't believe Wife can qualify for a refi.
• I've tried to get the other attorney (representing wife, the “house-spouse”) to work with you,
• but the Wife insists on going through Chase (I think) who has their mortgage.

My Response:

Hopefully, you see that this is a valid concern. But, you don’t have to be the bearer of bad news. You don’t have to be the party pooper. You don’t have to say APPROVED or DENIED.

Offload that task on the professionals. I appreciate your trying to get opposing counsel to work with me. That means a lot – Thank You. But, present your case as it truly is – it’s out of your hands because you are not the mortgage lender AND NEITHER ARE THEY; this means that you need a statement from the people who DO lend money and WILL lend money in this particular case. It’s really not rocket science. It’s simply “Show me the money.”

Send them this link: Show Me The Money!

And, wife is laboring under the same misconception that most people do – they think that the bank that “has their loan” will do a better job since “they already have the paper work.” They don’t realize that the bank that “has their loan” does not go and get their loan file and just update a few things to produce a new loan, especially based on the fact that “the bank already has their loan.”

It’s probably one of the worst presumptions homeowners make about their financing. Every loan is unique and basically “starts from scratch.” Divorce only exacerbates this novelty. Divorce creates an ENTIRELY NEW set of circumstances that, most likely, no one in their organization understands, let alone knows how to navigate to a successful closing.

Now the BIG QUESTION

Jody’s Question/Comment:

• They believe that if Wife qualifies to assume the mortgage in her own name then that solves the problem? 
• Can you explain the impact of that for Husband v. refinance? 

My Response:

Yes, I can.

The short answer is that he can remain at risk. He will absolutely remain at risk until this illusive promise of loan assumption turns into an actual loan assumption.

And, he could remain at risk even after a loan assumption. This is because there is no universally satisfactory definition of loan assumption. So, even if wife obtains one, it may or may not accomplish what he thinks it does.

The real problem, in my view, is how to mitigate or eliminate those risks and assure that he is “off, scott-free” so to speak.  So, here goes.

Loan Assumptions are more myth than fact. A loan officer / realtor recently told me that of about 100 attempts at a loan assumption, he knew of only one case in which it came through.

1. Loan Assumptions are rarely granted.
2. Loan Assumptions do not do what people think they do.
3. No one’s name/signature is EVER removed from a promissory note. The loan would be effectively void if any document like that were tampered with.
4. Loan Assumptions take 6 months or more to process to the point of the lender stating that they will allow the loan assumption.
5. A potential “assumer” has to qualify for the loan, just like they would qualify for a new loan. It’s not automatic. It’s a rigorous process and no one at the bank knows how to deal with divorce underwriting. Assume the worst.

But, here’s the kicker for divorce.

Remember, one of the facts of the case was

my guy is fine with that; but, he wants off the liability and his share of the equity.

6. A Loan Assumption NEVER allows additional funds to be advanced. There will NEVER be a buy-out included in such an assumption. EVER!

Here’s another punch-in-the-gut.

7. If there is a divorce action, the lender and the title company will now have to know the disposition of that divorce – its terms, including the liabilities assigned to their new borrower who wants to assume the loan, any loss of assets and much more.

This means that if there is to be an Owelty lien (remember, Owelty is automatically triggered with a buy-out of other party’s interest specified in the decree – with or without specific mention of Owelty), that is an additional debt that must be counted against their debt:income ratios. What are the payment terms? When will it be due? Does this new assuming-borrower have the money to pay this debt? How does this affect the TOTAL Loan To Value (LTV) ratio? That has its own set of guidelines and allowable maximums.

But, just for giggles, let’s say that a loan assumption is being promised.

When that is the case, the obligor on that promissory note, the party who is departing the house and leaving the debt un-refinanced and, thus, still an enforceable contract HAS TO KNOW THIS ONE THING. Ask this ONE THING of the lender who is allegedly processing the loan assumption request:

SEND ME THE DOCUMENT (LETTER, AFFIDAVIT, AGREEMENT, PLEDGE, PROMISE, WHATEVER) THAT I GET FROM YOU AS A RESULT OF THIS LOAN ASSUMPTION.

Insist on it. Demand it. It is absolute folly permit a loan assumption and not require it.

In other words, how does your client (the departing spouse) “get off the mortgage note?” How are they released? What assurances do they have that a future default on the mortgage note will not harm his credit or report against him in any way. His name and social security number will be tied to that loan until it is paid in full. Even if late payments are somehow prevented from being reported to credit bureaus, how will HUD (for FHA loans), VA (for VA loans), Fannie Mae or Freddie Mac (for Conventional loans) record that default in their records.

What assurances do I have that I will never be associated with that loan again? And are those assurances enforceable by law?

At the most, a lender might offer a Release of Liability. Just remember, a Release of Lien is what shows that there is no more debt to that lender. A Release of Liability could be a strong document. I would like to read one.

Other important questions for this illusive letter.

• Will it have an original signature by an officer of the company?
• Will the obligor sign it for purposes of enforceability?
• Is this a recordable instrument and will it have enforceability under applicable state law?

I have asked for a copy of this illusive letter – whatever it is – for 20+ years and have never received one. I’m not saying they don’t exist. But, like unicorns, it would be wonderful to know that they exist – but even more wonderful, to actually see one.

At this point, I would put opposing on notice of the facts herein about assumptions – especially since they do not understand the risks, or even the substance of such “loan assumptions” and are just accepting verbal statements as to their efficacy. This is a substantial legal issue. And, the person who needs to be protected is that person whose credit is at risk and has entered into a contract to repay money with an institution whose specialty is collateralizing its loans (i.e., foreclosing on collateral properties for non-payment, the “teeth” in the agreements which enable them to operate).

After years of trying to obtain actual verification that a loan has been fully assumed through such “loan assumption” measures (not “assumable loans” under relevant guidelines – remember the difference between “assumable loans” and “loan assumptions.”), here is my position and recommendation for family law cases.

Assume that all debt must be paid in full (by whatever legal means) in order for its obligors to be relieved of – and released from - such obligation.

I appreciate your questions. Keep ‘em coming.

Noel Cookman