What Happens If You Inherit a House With a Mortgage?

Imagine this: you’ve just inherited a house. Along with the mixed emotions rises an unsettling question—what happens if the house comes with an existing mortgage? Are you now shouldering payments you didn’t sign up for? Don’t worry. Inheriting a house with a mortgage sounds complicated, but this breakdown explains how it works and all your options.

Understanding the Inheritance Process

Inheriting a house with a mortgage can be a complex and emotional experience. It’s essential to understand the inheritance process to handle the situation effectively. 

When the homeowner dies, full ownership of their house and other assets don’t always immediately go to their closest family members.

When you inherit a house with a mortgage, you’re not just receiving a property; you’re also taking on the financial responsibilities that come with it. This can include continuing mortgage payments, dealing with the mortgage servicer, and understanding the outstanding mortgage balance. Knowing the steps involved can help you manage this transition smoothly and make informed decisions about your new asset.

Inheriting a House Through Probate or Trust

When a family member passes away, their assets, including their home, are distributed according to their will or the state’s laws. Two primary ways to inherit a house are through probate or a trust.

Probate is a legal process where the court oversees the distribution of the deceased person’s assets. If the deceased had a will, the probate process will follow the instructions outlined in the will. If there is no will, the state’s intestacy laws determine how the assets are distributed. This process can be lengthy and may delay your ability to take action on the mortgage.

A trust is a legal arrangement that allows the deceased person to transfer their assets to beneficiaries without going through probate. If the deceased has a trust, the trustee will manage and distribute the assets according to the trust’s instructions. This can be a quicker and more private way to inherit a house, allowing you to promptly address the mortgage.

Can You Actually “Inherit” a Mortgage?

Yes, you can inherit a mortgage, but it’s not as simple as inheriting just the house. When someone passes, they still leave behind financial obligations, including the monthly payment on the mortgage. As a property heir, you may be responsible for paying off these financial commitments. A mortgage is one of those commitments.

However, the specifics depend on the type of mortgage and where the property is located.

Who Inherits the Mortgage if There Isn’t a Will?

If the deceased person lacked a will, the court will determine inheritance. The house and its mortgage are typically inherited by the next of kin, such as a spouse, children, or siblings. However, the specific laws of inheritance vary by state. Consult with an attorney to determine who inherits the mortgage.

What Happens When You Inherit a House With a Mortgage?

There’s a big difference between inheriting a home free and clear and inheriting one with strings attached. If the late owner owned the house outright, congratulations! The house is now yours without attached mortgage debt. But if there’s still a mortgage in play, you’ll need to decide what to do about it.

1. Assess the Mortgage Terms

First things first, get all the details. What type of mortgage is it? Fixed-rate or adjustable? Conventional or a reverse mortgage? What’s the balance remaining? Gather this information from the lender or estate executor to understand the full picture.

A reverse mortgage’s terms mean the mortgage loan is due in full at the time of death. That means heirs must pay the remaining balance, sell the home, or turn over to the financial lender within 30 days. But other loans may have different terms or options, as will be covered shortly.

2. You’re Responsible for Payments

Payments don’t magically disappear—even in the mourning period, lenders expect payments to continue. If payments stop, the lender might initiate foreclosure proceedings. So, if you inherit a house with a mortgage, you’re also inheriting the monthly payments unless the estate plan specifies otherwise. 

Contact the mortgage servicer as soon as possible with either the death certificate, living trust, or probate documents.

If the estate is going through the probate courts, the executor is responsible for making these monthly payments until the distribution of assets is approved. Additionally, communicating and negotiating with other heirs when dealing with inherited properties is key to managing shared ownership responsibilities and potential estate buyouts. 

3. Is the Mortgage Assumable?

A due-on-sale clause in the mortgage contract requires the borrower to pay off the entire mortgage balance if the property is sold or transferred. But here’s some good news—some home loans are assumable, which means you can take over the terms as-is, including the interest rate and repayment schedule. Federal law, the Garn-St Germain Depository Institutions Act, prohibits lenders from enforcing the due-on-sale clause when a property is transferred due to the borrower’s death.

Knowing that you won’t be forced to pay off the remaining loan balance immediately upon inheriting the property, even though you need to keep up the mortgage payments.

However, you’ll need lender approval. They may evaluate your creditworthiness during the process and charge some transfer fees. FHA, VA, and USDA loans can all be assumable if you meet the qualifications. And while you could potentially receive the same rates and terms as the original loan, there’s a chance these could change.

Handling the Inherited Mortgage

Once you’ve inherited a house with a mortgage, take steps to manage the mortgage effectively. The first step is to notify the loan servicer of the inheritance. You must provide a copy of the death certificate and any other required documentation. 

The loan servicer will update their records and provide you with information about the outstanding mortgage balance, monthly payment amounts, and any other relevant details.

Consulting with an attorney or financial advisor can help you determine the best course of action for your specific situation. They can guide you through the complex process of inheriting a house with a mortgage.

Multiple Heirs

If the inherited house is left to more than one sole heir, you’ll need to work with the other beneficiaries to decide how to handle homeownership and other expenses. Again, continue paying on the loan or you could risk losing the inheritance. Multiple heirs could sell the property and split the proceeds, have one heir buy the others’ interests, or jointly own the inherited property. Do your best to avoid disputes and find a solution all can be happy with.

Paying It Off vs. Refinancing

If you have the financial means, you can pay off the mortgage balance and own the home free and clear. Alternatively, refinancing is another option if your current monthly mortgage payments and terms don’t work. A new loan may provide a better interest rate or adjust the repayment period to make monthly payments more manageable.

Credit Impact and Financial Planning

Taking on a mortgage or selling the home affects your financial plan significantly. Assuming the mortgage may limit your ability to qualify for other loans because of the additional debt-to-income ratio. A second home can also be a financial burden, with its additional maintenance needs, tax payments, and loan payments. However, consistently making mortgage payments can boost your credit score. 

But selling the home opens a host of tax questions, like capital gains taxes. Consider consulting a financial advisor before making a decision.

Selling an Inherited Home With a Mortgage

If keeping the house doesn’t align with your lifestyle or finances, selling can be a practical choice. Sometimes, selling isn’t an option; the home equity is required to pay off the estate debts. Many heirs opt to sell, as they already own homes and don’t want to carry a second or move into the inherited property. When preparing to sell:

Understand the Home’s Value

Contact a real estate agent or professional appraiser to get a property valuation. Confirm that the home’s market value exceeds the loan amount before selling. Additionally, the valuation helps you leverage the “stepped-up basis” for minimizing capital gains taxes.

Handle the Mortgage Balance

When selling, the funds will first be used to pay off any remaining mortgage balance, property taxes, and attached home liens. Any remaining proceeds are yours to keep.

Cover Additional Costs

Remember to account for real estate agent fees, closing costs, and possibly any estate-related expenses when calculating your net profit from the sale.

Alternatives to Keeping the Inherited Home

Renting It Out

If selling doesn’t feel right, but none of the beneficiaries want to live in it, consider holding onto the property by turning it into an income-generating rental. If the rental income covers the monthly mortgage payments (or, even better, leaves a profit), this helps build wealth over time. 

Renting has other financial implications, so speak with the financial advisor. Additionally, some lenders only allow assumable loans if the home will be a primary residence.

Loan Modification or Financial Assistance

Some lenders offer loan modification programs for those unable to maintain payments on an assumed loan but still want to keep the home. These can lower monthly payments by extending the loan term or reducing the interest rate.

Legal and Tax Implications

Probate and Estate Process

Not all inherited assets bypass probate. If the property wasn’t left to you in a living trust or through a transfer-on-death deed, it might need to go through probate court before you officially take ownership. That’s even if the will specifies you as the inheritor of real estate. Probate court processes delay your ability to act on the mortgage.

Property Taxes and Inheritance Tax

Depending on the home’s value and state, you may face property or inheritance taxes. Five states impose inheritance tax: Kentucky, Nebraska, Maryland, New Jersey, and Pennsylvania. Another 12 have estate taxes, which factor into the total estate assets. Always check with a tax professional or attorney specializing in inheritances to understand your tax obligations before deciding what to do about mortgaged property.

Takeaways for Managing Mortgage Inheritance

Remember, if you’ve inherited a house with a mortgage, gain clarity by:

• Understanding the existing mortgage terms and whether they are assumable.
• Decide whether to keep, refinance, or pay off the loan.
• Explore alternatives like renting or selling the property.
• Be mindful of legal, tax, and financial considerations before taking the next step.

Lastly, don’t rush! While dealing with the mortgage feels urgent and definitely has a timeline, taking a moment to breathe and evaluate your options will save you headaches in the long run. Before making moves, speak to the mortgage lender and a probate lawyer.