A second mortgage which could be your typical home equity loan or home equity line of credit, is a second loan you can access leveraging on the equity of your home. This mortgage like the name suggests is simply another second mortgage on your home, and just like the first mortgage, it is secured by your home. Like the first loan also, failure to make outstanding payments on this loan can result in losing your home. Outstanding costs of this loan, however, are only paid after the first mortgage loan has been completely paid. [1]
Since your home is an asset, it is bound to appreciate and increase in value. Likewise, the more payments you pay over time, the more equity you’d be having in your home. If the market trends positively and your property increases in value, this equity equally increases. It also decreases if your home loses value due to an unfavorable market economy. This mortgage leverage is based on your home equity and lenders would typically allow you to borrow as much as up to 80% when your home’s value is considered in relation to both the first and second mortgages.
Why You May Need a Second Mortgage
Second mortgage loans can prove very useful for certain situations. However, it is advisable to always use these loans on things that likely add value to your home or your total net worth. Although there is a little difference, these loans are like your typical loans which must be paid back regularly. So, before you spend these on frivolous things like entertainment or vacations, think it through, as this could prove risky and costly. However, you’ll find these loans helpful for the following uses;
Home improvements that end up adding value to your apartment home are usually some of the best cases where a second mortgage makes sense. Since this will ultimately end up increasing the value of your pad, it is worthy of consideration.[2]
Second mortgages are also used for debt consolidation, and if you’re using this to offset unsecured loans, let it also come to you that you’ve just staked your home on the line for this.
Other areas of application also include use in the avoidance of private mortgage insurance as well as education and a few other cases. Whatever it is you’d want to spend the second mortgage on, it’s always better to think it through and ensure this adds value to you or your home.
The Two Types of Second Mortgages
These loans come in two variants either as home equity loan or home equity line of credit. We’ll briefly discuss the difference here. [1]
Home Equity Loans are usually provided as a lump sum which is made available to the applicant at once. This is then paid back regularly over a particular period of time as set out in the agreement.
Home Equity Line Credit, also referred to as HELOC is similar in nature to your normal credit card. A certain amount is made available to you which you can access at any given time for whatever need may be required. This often has a limit and the interest rates are usually adjustable.
Advantages of Second Mortgages
Second mortgages have advantages and disadvantages. [2] We’ll consider the pros in this part of our guide.
You can borrow a great deal of money, as these funds are secured against your home. This gives you access to what would have ordinarily been out of reach if your home is out of the picture. This money can be spent on valuable projects that will usually require huge sums of money, such as home improvements or renovations projects. Many lenders will allow you access up to about 75% to 85% of your home value.
Lower interest rates in comparison to unsecured loans, also make these loans attractive for homeowners. The rates are typically lower than what you’ll have to pay for credit cards or other unsecured loans and are usually in single digits. Still, they won’t be as low as the rate on your first mortgage loan.
Interests on these loans are often tax deductible but you’ll be better off consulting your tax adviser on how this can apply in our own case.
Disadvantages of Second Mortgages
As advantageous as it is, there are also some disadvantages you may want to consider.
Chief among this is that you’re putting your home on the line for this. If you default, you could lose ownership of your home.
Another thing has to do with the closing costs. You may find yourself paying up to as much as 3 to 6% of the total loan amount to see it through. Interest rates are also not that high but still higher than what your first mortgage would usually cost.
What You Should Consider Before Taking a Second Mortgage
Second mortgages have gained notoriety among homeowners due to the risks associated with it like this cautionary statement;
‘’When you use home equity to pay off other debts you really aren’t paying them off. You are merely taking out one loan to repay another. The interest rates may be lower in the short term, but that’s only because you are using your home as collateral. The risk is that if you can’t repay your home equity loan, you could lose your home’’
Consumer Protection Financial Bureau, What is a second mortgage loan or "junior-lien"?, Feb 24, 2017.
But just like any other financial decision that would demand proper planning, you’d be doing yourself a lot of good by carefully weighing your options when making this consideration. If you can devote a little more time to studying your current financial situation, it’d be easier to make your decision so your second mortgage loan can work to your advantage.
Where and How Can You Get a Second Mortgage?
You don’t necessarily have to be limited to your first mortgage lender to get a second mortgage. Any lender of your choice will do but it is essential that you are able to get the best rates as well as lower closing costs. You may also compare quotes from several lenders so you can get the most competitive rate on your second mortgage.
