Second Mortgages

Second mortgages are secured against your home and are subordinate when it comes to repayment in the case of a loan default.

They are considered a bigger lender risk and become subject to higher rates than a traditional refinance.

Like any risk you consider taking you should ask yourself “Are the plans you have for the funds worth the risk your taking?”

Types of Seconds: (All plan terms are 20 years.)

• HOME EQUITY SECOND – Borrower takes a “lump sum” of cash at closing
• HOME EQUITY LINE OF CREDIT (HELOC) – Borrower establishes a line of credit that can be used to draw specific amounts when needed, until the line of credit is exhausted. HELOCS are always adjustable rate loans.

WHY DO A SECOND?

• Need substantial amount of money – You can have access to significantly more money with a second than a standard mortgage refinance of your home.
• Home improvements or additions – To balance out the risk factor, this would have to be something that could significantly help the appraisal value of your home, like adding square footage or improving the appearance and quality of the home.
• Consolidate debts – The idea would be to use the second to pay off all your high interest debt to essentially end up paying a much lower rate than all your other debt combined.
• Tax deduction – Interest on a second mortgage is tax deductible
• Term – Second loan terms are shorter than a refinance term

Reasons not to Refinance:

• Default – If you default on your second you could lose your home.
• Short term in home – Second could have a prepayment penalty, so if your stay in the home is intended to be short it could be an unexpected financial cost.
• Home equity line of credit is tied to the Prime rate and adjusts accordingly – This could result in the borrower having to pay substantially increased payments if the Fed raises the Prime rates.
• Lower mortgage rate/ already in a fixed rate – If this is your scenario than obtaining the extra cash with a second makes more sense.

Refinancing the first if a lower rate comes along may prove to be difficult; lenders would likely expect to have both the first and second paid off unless they are willing to subordinate.*

*A subordination agreement is a document that would need to be signed by the lenders of the second stating that they are still 2nd loan priority and understand the first will need to be satisfied first in the case of a loan default.

Why Refinance?

• Reduce interest rates/ interest costs – By refinancing at a lower rate
• Extend repayment time – When you choose to refinance your loan term can increase depending on how long you’ve already had the first – essentially giving you a longer time in which to pay off the loan
• Change from a variable rate to a fixed – For more stability and peace of mind
• Cash out – Can be used to pay off debts, handle medical or personal emergencies, college tuition for child or grandchild

Reasons not to Refinance:

• Moving in the near future – Seconds will work better if you’re planning to only live in the house a short time before moving.
• You have a large expenditure – Refinances are not designed to give you large amounts of cash in one lump sum
• You’re already in a fixed rate – A popular reason why refinances are done is to change from the unpredictability of an adjustable into the stability of a fixed.
• You don’t want to extend the life of the loan – Mortgage would likely be for another 30 years, if you have only 20 years left to pay when you consider refinancing, you might not want to add the 10 extra years of commitment back in.

Types of Refinance Plans:

• No cost closing – Gives you the option of financing your fees into your loan, or in some cases the bank will pick up the borrower’s fees.
• Cash out – Can be used for home improvements, to consolidate credit and debt. If current home equity qualifies, the borrower can refinance with a larger loan amount than their current mortgage and keep the difference.

Refinancing is essentially just renegotiating the terms of your first loan, while a obtaining a second mortgage, it involves borrowing against the equity you’ve already built up in your property and using your home as collateral.

To be lender approved you need:

1. Significant equity in your first mortgage – Combined loan to value or CLTV cannot exceed 75-80% , depending on the lender program.
2. Low debt to income ratio – Debt cannot be below 43% of your income.
3. High credit score – 670 or above
4. Solid employment history – 2 year verifiable employment history in the same industry.

The last factor to weigh in the decision making process is the finality of it. When you do a Second mortgage the deal is done, with a refinance you are give a 3 day rescission in which you can change your mind if you are undecided or unhappy with the loan terms.