If you’ve decided to sell your house -- or need to due to a career move -- but are losing sleep worrying about your existing home equity loan, you are either worrying unnecessarily or you don’t understand the available options. The short answer to your quandary is that you personally don’t have to pay off the loan before you list your house for sale, but the loan must be paid, one way or another, when the sale closes so that the buyer has clear title to the house.
Home Equity Loans
There are two types of home equity loans: a lump-sum loan, in which you get the money all at once, also referred to as a second mortgage; and a home equity line of credit, commonly referred to as a HELOC, which lets you draw money out as you need it up to a certain pre-approved amount. You get both of these based on your home’s equity -- the difference between its value and what is currently owed, such as the balance of any first mortgage. Both types place a lien -- or claim -- against the title to the property, just like the mortgage you got when you bought the house.
Sale Proceeds Payment
The easiest way to take care of your home equity loan is to pay it out of the sale proceeds at the time of closing. If your first mortgage balance is $40,000 and your home equity loan is $20,000, and you sell your house for $100,000, you -- through the title company -- pay off the two loans. You walk away with the remaining $40,000 and the buyer gets clear title to the house.
If your first mortgage balance is $40,000 and your home equity loan is $20,000, but you can only sell the house for $50,000, it's a bit more difficult. One option is to negotiate -- or beg -- with both lenders to see if they are willing to accept less than what is owed. This is called a “short sale.” Another option is to arrange a “seller-financed purchase.” In this scenario, you agree to accept payments directly from the buyer for a period of time -- say six months to two years. At the end of this period the buyer gets a loan to pay for whatever balances remain. Check your first mortgage deed of trust for clauses that might prevent this arrangement.
If your credit is good, you may have a shot at convincing the lender to convert the unpaid balance of your loan or HELOC into an unsecured loan or line of credit. So, if you can sell your house for $50,000, you have enough to pay off the first mortgage of $40,000, but the remaining $10,000 will only pay half of the $20,000 home equity lien. The lender accepts the $10,000 and has you sign a new “unsecured” loan or line of credit for $10,000 payable upon terms that are mutually agreeable. Or, you secure it with other collateral, such as a car or boat. This gives the buyer clear title to your house.
- The Wall Street Journal: Home Equity Loans and HELOCS – Getting a Good Deal
- Vestell Wright, Branch Manager, Network Funding, LP, Austin, Texas
- Chicago Tribune: Second and Third Mortgages Make Short Sale Tricky Proposition
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