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https://hdl.handle.net/2142/71524
Description
Title
The Value of Mortgage Assumptions
Author(s)
Sunderman, Mark Allen
Issue Date
1986
Department of Study
Finance
Discipline
Finance
Degree Granting Institution
University of Illinois at Urbana-Champaign
Degree Name
Ph.D.
Degree Level
Dissertation
Keyword(s)
Economics, Finance
Abstract
It is widely accepted that mortgage assumptions have an effect on the selling prices of single family houses. However, most empirical work has found that the actual effects are substantially less than the expected effects. Explanations of this difference have been ad hoc.
Assumption financing is considered to be of speical interest because in general its price depends entirely on the demand side. That is, supply should be perfectly inelastic because there are no opportunities for a seller to use this credit other than through a sale. In other words, the seller cannot separate the credit from the real estate and sell it (the credit) in the general market. Thus, there is no opportunity cost.
The purpose of this thesis is to develop a theory of the value of a mortgage assumption and to test that theory. The theory uses a utility maximizing home buyer who faces various mortgage financing opportunities. Bounds for the values of a mortgage assumption are derived using the concepts of income levy and income supplement. These concepts are similar to the concepts of compensating and equivalent variations.
The theory is structured in a multi-period model with changes in consumption assumed to be the same for all future periods. It is assumed that the individual's utility function is quasi-concave, that is, the indifference curves are strictly convex. Opportunities for financing are assumed to include the assumption, an 80% conventional mortgage, and a second mortgage at a rate which is higher than the conventional mortgage rate. A lower and an upper bound for the value of an assumption are derived for a perfect and an imperfect credit market.
The data used in this study represent sales of single family detached houses located in a cluster of subdivisions in the southwest portion of Champaign, Illinois. The sample consists of 386 sales that occurred during the period from January 1979 to August 1984. These observations include 282 sales where conventional financing was used and 104 sales where assumption financing was used. The empirical test of the theory utilizes an hedonic price model in which financing variables play an important role. The hedonic price model is developed using both a linear functional form and a multiplicative functional form.
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