For existing homeowners looking to sell their existing home and buy a new one, this current market poses many challenges.
In real estate, there are buyers’ markets and sellers’ markets. We are in a seller’s market and will be for the foreseeable future, regardless of interest rates.
This seller’s market requires buyers to use other tools to get an accepted contract. Two options are a bridge loan or a mortgage recast.
What is a Bridge Loan?
Bridge loans are a type of temporary loan. They use the home equity from your current property to make a down payment on a new home.
What is a Mortgage Recast?
Borrowers purchase a new home with cash. After they sell their current home, they use a recast on their new loan. A mortgage recast is when a borrower makes a large single payment of cash on a mortgage to reduce the principal balance.
After the payment is received, the monthly payment is then lowered based on the smaller principal balance.
This lump sum payment is made after closing. The servicer then lowers the monthly payment from the reduced principal. If applicable, the servicer will also cancel the mortgage insurance.
When does a Bridge Loan or Recast Make Sense?
When considering bridge loans versus recast loans, the decision depends on the specific circumstances and needs of the borrower. Bridge loans are typically utilized if there is a temporary need for financing when the borrower needs access to money to purchase a new home without already having sold their old one. In such cases, a bridge loan utilizes the equity in your current home to secure the new property. Bridge loans are an additional mortgage and have another set of closing costs and transaction fees. They can also come with high-interest rates and have adjustable vs. the standard fixed rate of a mortgage.
On the other hand, a recast will cost the borrower less money. A recast does require the borrower to have access to cash to put 5% down on the new property and to be able to afford two payments – but the benefit is that you do not have all the additional costs of a bridge loan. After the sale of your current home, you can recoup some of the initial costs you invested in that down payment to replenish your cash reserves and use the remainder of the funds to recast your new mortgage.
Buyers’ Market vs. a Sellers’ Market
A buyers’ market is when there are more sellers than buyers. This is great for buyers and drives down the price of real estate. The buyers have more negotiating power.
A sellers’ market is when there are more buyers than sellers. This is great for sellers and drives up the price of real estate. The sellers have more negotiating power.
Writing “Contingent” in a Seller’s Market
Writing “contingent” means offering to purchase real estate contingent on something happening, usually the sale of the existing property.
We have been in a seller’s market for several years. Therefore, sellers often receive multiple offers on their listings and have more negotiating power.
Any seller or listing agent is going to look for simple criteria to remove offers from their list. Contingent offers are part of that criteria. So, you don’t want to submit an offer to purchase a home “contingent” on selling your existing home.
In a sellers’ market, using either the bridge loan or the recast becomes important to helping make competitive offers.
When is a Recast Right for Me?
Usually, when a recast works, is when:
- You are trying to sell your existing home and buy a new one.
- You have a lot of equity in your current home. You want to use it to lower the mortgage for the purchase of your new home.
- You are worried that the money from the sale must be available at closing. This is so you can have a lower mortgage payment that fits within your budget.
- You have 5% to put down on the new purchase by savings, gift, or 401k.
- You can make two payments, one on your existing home and one on your new home, for a while. However, you don’t want to make them for too long.
Why Is Recasting a Better Option Than a Bridge Loan?
Here’s the short answer – a mortgage recast is a better option because you save money. Here’s why:
- A bridge loan is more expensive. A bridge loan is a separate mortgage with another set of closing costs and transaction fees. You will need to have your existing home appraised, with title costs charged and underwritten.
- A bridge loan has a higher interest rate and is adjustable vs. standard fixed-rate mortgages. A bridge loan is a short-term loan and will have a higher, adjustable interest rate.
- The recast is cheaper. The buyer can reach their objectives with one mortgage transaction. This also means only one set of closing costs. They can also get a fixed-rate mortgage.
- The recast is simpler. Remember, the bridge loan is a separate mortgage on your existing home. There will be another purchase transaction once you find your new home.
How Does a Recast Loan Work?
Step 1: Paul and Ellen have a home at 123 1st Street. They owe $100,000 and will sell it for $200,000. Their new home at 456 2nd Street will cost $300,000. They will put 5% down ($15,000) and finance $285,000.
Step 2: Paul and Ellen have moved into their new home on 456 2nd Street. Now they are ready to put 123 on the market.
They sell their old home for $200,000 and pay off the $100,000 mortgage. They now have $100,000 cash left from the sale. Let’s see how to recast their mortgage.
Step 3: Paul and Ellen take the $100,000 from their sale. They use the money to pay down their mortgage on their new home at 456 2nd Street from $285,000 to $185,000.
The payment is lowered based on the new principal balance and remaining term. Plus, with over 20% equity, there’s no mortgage insurance.
This is all accomplished under the terms of the note taken out at closing. It is not a 2nd transaction.
Why Isn’t the Recast More Widely Known?
I’m always amazed at customers’ responses when we explain the recast. People tend to be happy to hear about it but also slow to absorb the information. “Could you repeat that?” always seems to be a common request in explaining the recast.
A recast is only available on a conventional loan which can be used for single-family homes, condominiums, townhomes, and multi-family units with down payments depending on occupancy. Borrowers with a credit score above 780 will score the best interest rates.
A Mortgage Recast is a Smart Move
As with any real estate transaction, there are mortgage recast pros and cons, but there are many more advantages than disadvantages. And whenever possible, we help borrowers choose to recast over taking out a bridge loan. As long as you have enough means to afford two payments for a while, it’s worth it.
There’s also considerable value to the convenience of buying your new home first–before listing your old home. It takes a lot of stress out of the entire process. If you’d like to see if recasting your mortgage is a possibility for you, contact us today.
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