You were keeping up with your mortgage payments. You thought you had all your finances planned to the nitty-gritty with a detailed budget in place and then bam! Life happens. Unexpected repairs or large monthly bills have you cornered. You’re stressed on how to cover these costs. In such cases, a second mortgage may be the solution.
What Is A Second Mortgage?
First mortgages are intended to help finance the purchase of a home by providing funds. This helps ensure you don’t have to empty your life savings from the bank account or put up thousands of dollars at once because, let’s face it, how many of us actually have that amount lying around?
Second mortgages, on the other hand, allow you to borrow against the equity of your home. The equity in your home is the amount of value that is not financed, so in other words, you are essentially re-purposing the money you put into your home.
So, basically, a second mortgage is a lien that’s taken against a property if a new loan is made but a previous loan remains outstanding. Second mortgages are entirely separate loans with their own application procedures, closing costs, and monthly payments.
In fact, you don’t need to obtain the second mortgage from the entity financing your first one. A separate financing institution can be contacted with a request for another mortgage and depending on your financial position, currently and in the forthcoming future, you can get easy approval for a second mortgage.
When your credit score is good and there is twenty percent equity in your home, the best option for a second mortgage is a home equity line of credit (or HELOC). However, if you have weak credit and/or insufficient equity, you would need a second mortgage from a trust company or private lender.
Considerations For A Second Mortgage
Lenders tend to examine four prime areas to determine a second mortgage applicant’s qualification:
- Equity – With more equity on your side, your odds of obtaining a second mortgage rise substantially. If you are buying a house, a bigger down payment will also decrease the risk that the lender will take on. Utility, telecommunications, and insurance payments will be considered, as well as confirmation letters from your service provider.
- Income – Your lender wants to ensure that you will be able to make payments by verifying that you have a reliable source of income. If your income stream is not dependable, it will be difficult for you to score that second mortgage.
- Credit score – Credit scores are also crucial in determining the terms of your second mortgage. These represent an individual’s ability to repay a debt. So, your interest rates will be lower if you have a high credit score.
- Property – Ultimately, the service-providing institution will need to secure their investment made in the event that you are unable to keep up with your payments.
Why Take Out A Second Mortgage?
Homeowners are increasingly opting for second mortgages as a supplementary financing source. A second mortgage typically amounts to ten to twenty percent of the property’s value. And they are generally paid out in lump sums. So why take out a second mortgage?
If you cannot come up with a twenty percent down payment for your dream house, a second mortgage can fill the financial gap between you and your dream abode. Also, a second mortgage allows you to borrow from your house’s equity.
The tax-deductibility of debt in the form of primary, secondary, and home equity lines of credit has led to consumers taking out home equity loans to consolidate other debts.
Downsides To A Second Mortgage
It doesn’t come without downsides, though. For instance, if you become unemployed or experience another financial hardship and cannot make your payments, you will have to say goodbye to your house.
You would also be limiting the amount of equity in your home which many people count on to help them in retirement.
In most cases, your second mortgage will carry a higher interest rate than your first mortgage. The subordination of second mortgages makes them riskier for lending institutions, which charge a higher interest rate to compensate for any likely losses they might incur if the deal does not work out.
While second mortgages may help you out when in a financial rut, they can be quite costly at the same time. There are a lot of costs associated with obtaining a mortgage such as credit checks, appraisal costs, closing costs, origination fees, etc. You will need to bear the cost for all of these.
So, before you make the decision to take out a second mortgage, be sure to review your financial standing and the possible repercussions if you are unable to follow through.