Can You Sell Your House If You Have a Home Equity Loan?

Selling a home with an existing home equity loan is a common financial transaction. While a home equity loan does not prevent the sale of a property, it introduces specific financial and procedural considerations. This article explains the intricacies of selling a home when a home equity loan is involved, outlining the necessary steps and potential challenges.

Understanding the Lien

A home equity loan (HEL) or a home equity line of credit (HELOC) functions as a secured debt, meaning it is backed by the value of your property. Lenders place a legal claim, known as a lien, on your home’s title to secure the loan. This lien signifies the lender’s right to the property if the borrower defaults on payments.

For homeowners, the home equity loan represents a second lien, or junior lien, on the property, subordinate to the primary mortgage. Both the primary mortgage and the home equity loan must be paid off before a clear title can be transferred to a new buyer.

The Payoff Process at Closing

The payoff of a home equity loan typically occurs as an integrated part of the home sale closing. The title company or closing attorney, acting as a neutral third party, plays a central role in this process. They will request a “payoff statement” from your home equity loan lender, which details the exact amount required to fully satisfy the loan, including any accrued interest and fees, valid through a specific date. This statement provides the precise figure needed to clear the lien.

During closing, the proceeds from the home sale are distributed in a specific order. The primary mortgage, which holds the first lien position, is paid off first. After the primary mortgage is satisfied, the funds are then applied to pay off the home equity loan. Any remaining balance from the sale proceeds, after all liens and closing costs are covered, is then disbursed to the seller.

Once the home equity loan is fully paid, the lender is obligated to issue a “lien release,” a legal document confirming that their claim on the property has been removed, typically filed with the county clerk’s office. This ensures the new owner receives the property free and clear of the prior debt.

Addressing Negative Equity Scenarios

A challenge can arise if the combined outstanding balances of the primary mortgage and the home equity loan exceed the home’s sale price. This situation is known as “negative equity” or being “underwater.” In such cases, the sale proceeds are insufficient to cover all existing debt, leaving the seller with a deficit. The seller would then be responsible for covering this shortfall.

One common option is for the seller to bring cash to closing to cover the difference between the sale price and the total amount owed. This requires the seller to have readily available funds to complete the transaction.

Alternatively, sellers might explore a “short sale,” which occurs when the lender agrees to accept a sale price that is less than the total amount owed on the mortgage and home equity loan. Lenders may agree to a short sale to avoid the costly and lengthy foreclosure process, though it typically requires the seller to demonstrate financial hardship. While a short sale can help avoid foreclosure, it still impacts the seller’s credit. In some instances, lenders may forgive the remaining balance, but in others, the seller might still be liable for the deficiency.

Preparing for the Sale

Proactive preparation is important when selling a home with an existing home equity loan. A primary step involves contacting your home equity loan lender early in the selling process. This allows you to understand their specific payoff requirements, identify any potential early repayment penalties, and request a current payoff statement. Payoff statements typically have an expiration date, so it is important to obtain an updated one closer to the closing date.

It is also advisable to inform your real estate agent and the chosen closing attorney or title company about the home equity loan at the outset. Providing all parties with comprehensive information ensures they can accurately calculate potential net proceeds and anticipate any procedural needs. Clear communication among the seller, real estate agent, lender, and closing agent helps facilitate a more efficient and transparent transaction, reducing the likelihood of last-minute complications.