Can You Sell a Home You Haven’t Paid Off?

If you have a mortgage, you can still sell your house. But how much money, if any, you make from the sale is dependent on various factors. The most crucial consideration is much you still owe on your mortgage. Read on to learn more about how your mortgage determines whether you will see a profit or a loss when you sell your home.

How do mortgages work?

When you buy a house, you put up a down payment, which is a small percentage of the total purchase price. To cover the remaining balance of what you owe for the home, you take out a mortgage, which is a home loan that also includes interest.

A mortgage is also considered a lien on the home. Having a lien means that your lender, the bank that issues your loan, has a legal claim to your property until your mortgage is paid off. If you don't pay your mortgage, then the bank has the right to take it back. To qualify for a mortgage, lenders base it on your creditworthiness, including your credit score, debt-to-income ratio, and other financial factors. If you stop making your mortgage payments, the house is used as collateral to protect the lender. It allows the lender to foreclose on the home.

Lenders also earn interest on your loan. When you make your initial mortgage payments, a more significant portion of that fixed amount goes towards paying interest and less goes towards the principal balance. As time goes on, a more substantial part of your payments go towards the principal balance, reducing what you owe, and causes the interest goes down.

Lenders want to make sure that the house is worth what they are lending on it, and this is where the loan-to-value (LTV) ratio becomes essential. LTV is calculated by the mortgage amount divided by the home's appraisal value. The higher your down payment, the more it helps ensure that the house will be worth more than what you owe if your lender ever has to foreclose because you stopped making payments.

What happens to the mortgage when you sell your house?

When you sell your home, it means that a buyer has agreed to pay you, the owner, a certain amount for your house. From that amount, there are fees, realtor commissions, liens, and/or taxes owed by you that must be paid when the home sale closes.

At the closing is when the mortgage lender is paid in full for the balance left on your loan. After your mortgage balance and other fees and commissions are paid, the net proceeds that are left, you get to keep. If the total amount you owe for all of the above items does not exceed the sales price, you will have to bring money to the closing to pay off these debts.

Let’s look at the following examples:

Scenario #1

Jane purchased the home for $140,000 on January 1, 2010, with 5% down. Her mortgage was for 30 years and had a 5% interest rate. She always made her payments on time. As of January 1, 2020, Jane still owed $104,953.12 on her mortgage.

Jane decides she would like to sell her home and move to a different area. Values in her current area have gone up in the last decade. She accepts an offer for $200,000, and the buyer obtains a mortgage to purchase her home.

Jane used a real estate agent to sell the house, who will be paid 6% of the total sales price as a commission (or $12,000). Jane has incurred no liens other than her mortgage, and all her property taxes are up to date. She will have to pay the seller's portion of the closing costs that amount to about 2% of the sales price (or $4,000). In total, Jane's closing costs will be $16,000.

A title company closes the sale of Jane's home. The buyer's lender wires the title company the funds ($200,000) for the new owner's mortgage. This wire transfer is referred to as putting the funds in escrow. The title company pays Jane's mortgage company the $104,953.12 still owed on her mortgage from the escrowed funds. The title company also pays the $16,000 in closing costs to the required parties from the escrowed funds.

After paying all debts owed on the property and closing costs, the title company puts the balance of $79,046.88 in an escrow account for the sale of Jane's home. That is the amount of Jane's net proceeds, and she gets the entirety of that balance via a check or a wire to her personal bank account.

Jane sold her home and paid off her mortgage from the proceeds, without any money out of her pocket.

Scenario #2:

John bought a home for $190,000 on January 1, 2019, with 3% down. His mortgage was for 30 years, and he has a 5% interest rate. He has always made his payments on time. As of January 1, 2020, John still owed $178,722.69 on his mortgage.

John's employer has transferred him to work in another state, and he has no choice but to sell his home much sooner than he ever expected to. Unfortunately, house values have not gone up much in the two years he's owned the home. He agrees to sell his house for $191,000 to a buyer who obtains a mortgage to purchase it.

John used a real estate agent to sell the home, who will be paid 6% of the total sales price as a commission (or $11,460). He has incurred no liens, and all his property taxes are up to date. He will have to pay the seller's portion of the closing costs that equal about 2% of the sales price (or $3,820). In total, John's closing costs will amount to $15,280.

A title company closes the sale of John's home. The buyer's lender wires the funds ($191,000) for the new owner's mortgage. The title company pays John's mortgage company the $178,722.69 still owed on John's loan from the escrowed funds. The title company also pays the $15,280 in closing costs to the required parties from the escrowed funds.

After paying all debts owed on the property and closing costs, there is a negative balance of -$3,052.69 in the escrow account for the sale of John's home. This negative balance means that John has to pay that amount to the title company to close on the sale. In this case, John has sold his home at a loss, with $3,052.69 coming out of his pocket at closing.

Why Equity Matters

As you can see from the scenarios presented above, several factors determine if you will end up with a profit or a loss when you sell your home with a mortgage. How much you put down, your interest rate, the home's condition, current home values in the area, how you sell your home, and the selling price, all affect whether you will receive or have to pay money at the closing.

If there is a significant loss when selling your home, it may be eligible for a short sale. Short sales are for when a home becomes worth less than the outstanding balance owed on the mortgage, usually by 20% or more. In this case, the mortgage lender must approve the selling price, which is less than the balance owed on the mortgage, and the lender gets the proceeds from the sale, not the seller. A short sale will negatively affect the seller's credit score, but it is less damaging than a foreclosure.

If you are looking to sell your house, contact AMI House Buyers for a no-obligation cash offer. You can also contact Roots and Wings Realty Group for a free evaluation of your home's market value and on-market sales options. Remember, selling your home is all about the bottom line. It's always best to explore different selling options to determine what will provide you with the highest profit.