Mortgages are complicated and confusing, and second mortgages are doubly complicated and confusing.A second mortgage can be an extremely useful tool for your wealth, or it can become a financial trap. Before you head into the world of second mortgages, there are a couple of different things you should think about. Read on for an overview of second mortgages and advice to help you determine whether or not you should consider a second mortgage.
What Is a Second Mortgage?A second mortgage can be a valuable borrowing vehicle in certain circumstances. Here’s how you can benefit from a second mortgage.
How a Second Mortgage WorksA second mortgage is basically a loan using your home equity as collateral. If you own your home, whether you have a mortgage attached to the property or not, you may be able to secure a second loan by liberating your equity that has built up over the years. Generally speaking, real estate increases in value, so while a typical mortgage can stretch out for up to 30 years, the principal owed on the house steadily falls while the value of the house appreciates. To find out how much you can possibly qualify to borrow on your home you need to find out how much equity is in your home. This is calculated by estimating the market value of the property and subtracting the payments made towards your first loan so far. For example, if your home is currently worth $250,000 but you have a first mortgage of $160,000 outstanding on the property, you have managed to amass $90,000 in equity. Lenders may be willing to allow you to borrow anywhere from 60% to 80% of your equity, which works out to roughly $54,000 to $72,000. One unique kind of second mortgage is a cash-out refinance. This replaces your old mortgage with a new mortgage. With the new mortgage, it’s slightly larger than the original amount. The larger mortgage will give you a one-time cash payment.
What are Second Mortgages Used For?As you can see a second mortgage can really represent a sizable chunk of cash, but what are they used for? Well, you can use a second mortgage for anything from funding a child’s education to making repairs on your home. If you are going to take on additional debt, it should be for something worthwhile. A vacation, however deserved, might be better to save for slowly, than to take on the cost of a home equity loan. Another option can be to avoid Private Mortgage Insurance.
While Private Mortgage Insurance may not seem like a big deal, it can cost you thousands of dollars over the course of your loan.It’s almost always worth avoiding PMI if you can,
Getting a Second MortgageNow that you understand how a second mortgage mortgage works, we can continue with the process. If you’ve decided that you want to take out a second mortgage on your house, we can help you with the route you should take.
Use a Good Lender
Steps you Can Take to Get the Best Loan
- Go to the bank: The obvious first place to start is with your bank or mortgage company that holds the FIRST mortgage. More than likely they will be happy to give you a second mortgage (assuming you have a decent credit score and history with the organization). It will almost make the payments on the second mortgage easier because you already write one check to the bank for your mortgage, so you won’t forget to write a second one (hopefully).
- Shop around: After you’ve talked with your current bank or mortgage company, you can continue to look around with other banks and lenders. More than likely you didn’t go with the first lender you quoted with the original mortgage, so why would you go with the first on your second mortgage? Once you’ve met with several different loan offers at various established, you can sit down and decide which one works best for you. There are a few things you should consider, aside from interest rates (although it’s the most important factor), before picking out a second mortgage.
- Look at the loan types: Are they fixed rate or adjustable? This is going to have a huge impact on the amount of interest that you pay over the course of your loan.
- Look at the fine print: Are there any balloon payments attached to the loan? Be sure to look at every aspect of the mortgage before you sign any paperwork. Otherwise, you could pay thousands of dollars that you didn’t expect to pay.
Pros and Cons of a Second Mortgage
Pros of a Second Mortgage
- Deductible: The good news about a second mortgage is that mortgage interest of up to $100,000 of the principal for married couples and $50,000 for singles is deductible on your tax return as well. Although this is meant to be a combined mortgage interest on both your mortgage loans it is still a great deduction, especially if your first mortgage is closer to the end of its life and so has a relatively small portion of interest payments left.
- Liquidation: Another (possible) pro of taking out a second mortgage is the ability to liquidate the equity in your home. If you are on the verge of bankruptcy and you need to get access to cash to pay off high-interest loans and back taxes, taking a home equity loan might not be a bad trade.
- Low interest: The interest payable on a home equity loan is usually lower than other types of debt because it offers the lender the security of your house. Depending on your situation, this could be an excellent way to lower the amount of debt you have and save you money on monthly interests.
Cons of a Second MortgageTaking out a second mortgage is not without its drawbacks.
- Your home is collateral: For instance, you need to remember that even though the loan does provide you with the cash you want it comes at the cost of putting your house up for grabs in the event you cannot make good on the loan. While we hope it never happens to anyone, it’s not uncommon for some financial tragedy to strike and for a person to lose their house because of a second mortgage.
- Expense: A second mortgage is also not without its costs. You have to pay for an appraisal on your house, loan origination and other legal fees associated with an ordinary loan, so although there is a lower rate of interest, there are other costs to consider. If you don’t remember from when you first got a mortgage, the house appraisal and legal fees can add up to be quite a hefty bill. While this probably isn’t going to completely change your decision on a second mortgage, you should at least calculate it into the costs beforehand.