What Does It Mean to Take Out a Second Mortgage

9 Min Read | Sep 24, 2021

Maybe this has happened to you lot.

Yous've been steadily paying off your mortgage when suddenly, you showtime getting letters from lenders inviting you to take out a 2nd mortgage. "Build wealth!" they say. "Pay for your didactics! Renovate your house!"

The promises are tempting and the money seems legitimate. It can't exist too risky, right?

Hold upwards! Before you get yourself in another mortgage bind, let'southward take a closer look at second home mortgages and why they're not worth it.

What Is a 2nd Mortgage Exactly?

A second mortgage is when y'all cede your ain dwelling equity (by turning it into a loan) in substitution for a faster style to pay off other debts, complete home comeback projects, or buy something yous couldn't otherwise afford.

But it'due south debt. You must pay it back. And since a second mortgage is secured by your abode, you'll lose your house if you don't pay information technology back. That'southward some scary stuff.

What Is Home Equity?

Unless you've paid off your mortgage, you don't technically own your whole firm. You lot ain a portion equal to the corporeality you've paid. Domicile equity is that portion of your house that'due south truly yours.

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It's pretty simple to summate: Just subtract your mortgage balance from the market value of your dwelling house.

For example, say your domicile was valued at $250,000 and you lot owe $150,000 on your mortgage. To figure out your equity, y'all'd only decrease $150,000 from $250,000. That ways your dwelling equity would equal $100,000.

But that's assuming the market place value of your home has stayed the aforementioned. By and large, the market value fluctuates, and then your disinterestedness will besides, depending on which mode the market blows.

How Does Home Equity Plow Into a 2nd Mortgage?

Well, here's what happens: A homeowner says, "You know what? I have $100,000 in disinterestedness. Why can't I plough that $100,000 into coin I can use to pay off my student loans, renovate my business firm, or get on vacation?"

Low and behold, some lender thinks that'south a great idea and replies, "You lot've got yourself a deal!" The lender agrees to give the homeowner their disinterestedness if the homeowner promises to pay them back with interest—or paw over their house if they don't.

And voilà! Just like that, abode equity turns into a second mortgage.

2d Mortgage vs. Refinancing: How Are They Different?

Now be careful not to confuse a second mortgage with a refinanced mortgage. A 2nd mortgage comes with a second monthly payment along with your current monthly payment.

Meanwhile, refinancing means you're replacing your current mortgage with a new mortgage that has a different gear up of terms—so you stick with only 1 monthly payment.

With a second mortgage, your primary lender holds the lien (the rights to your house)—so if you lot stop making payments (default), they can take back your house (foreclosure).

Your second lender only gets their money dorsum if your main lender gets all their coin back from auctioning off the house.

All this to say, your 2d lender is taking on a higher risk and will probably charge you lot a higher interest rate every bit a effect compared to doing a refinance.

Are Second Mortgage Rates Higher?

Did yous grab that? Second mortgage rates are notoriously higher than those of a refi—and of a principal mortgage! In other words, second mortgage rates are expensive and keep you in debt longer.

Meanwhile, you're non (normally) going further into debt with a refi. In fact, if you refinance the right way for the right reasons (a better interest charge per unit and a shorter term), you'll salve tens of thousands in interest and pay off your house sooner.

Types of 2d Home Mortgages

Let's look at two forms of 2d mortgages:

Home equity loan. With a home equity loan, your lender gives you a stack of money based on your disinterestedness, and you repay the lender every month. Because it's a one-time lump sum, home equity loans come with a fixed interest charge per unit, so monthly payments don't modify.

Home equity line of credit (HELOC). A HELOC is when your lender allows yous to infringe a large amount of your disinterestedness—only not as a lump sum. It's more similar a credit bill of fare where you have a borrowing limit, and yous merely pay for the amount you borrow. After the borrowing time frame has concluded, you must pay off your account—or else your lender will take your firm!

What's Required to Get a Second Mortgage?

Recall, 2d mortgages are risky for lenders because if your home is foreclosed, the lender of your first mortgage gets dibs on your house. So, when it comes to issuing second mortgages, here's what lenders will want to know:

You take good credit. If you've had problem paying off your first mortgage, good luck getting a second one. You lot must prove to your lender that you consistently pay your mortgage payments—otherwise, they won't consider your application.

You have equity. In almost cases, lenders want an appraiser to wait at your house and calculate your equity. While you lot tin can get a rough approximate based on how much mortgage remains and how many payments you've made, an appraiser will take a closer expect at the market value of your home to give an authentic number.

You don't have a lot of debt. Just like when you applied for your starting time mortgage, lenders want to know you have a steady income and y'all're not upward to your neck in debt. Your lender volition desire to review your pay stubs, tax returns and banking company statements.

Why Would Yous Get a 2nd Mortgage?

Hither are some mutual reasons homeowners are tempted to become 2nd mortgages:

To Pay Off Another Loan or Debt

Can yous apply a loan to pay off a loan? Yep. (Practise we recommend doing this? Nope.) Many people use their 2d home mortgage to pay off pupil loans, credit cards, medical debt or even to pay off a portion of their offset mortgage.

To Fund Home Improvement Projects

Can't wait to add the backsplash in the kitchen? Ever wanted a swimming pool but never had the cash? Homeowners sometimes accept out a 2d mortgage to renovate their houses.

The idea is that if you renovate your house, y'all'll increment the marketplace value of your home, getting you more disinterestedness. But that thought assumes the market value of your home will go up. All the same, if the value of the homes in your area goes downward, y'all'd have a major problem—and no equity.

To Make a Personal Purchase—a Big One

Though this isn't as common as the first ii, people will accept out a 2nd mortgage to buy a new car or fund an exotic vacation. But don't fall for this! It'south just a trap for more debt.

Should I Get a 2d Mortgage?

Second mortgages are tempting—but they're just non worth it. Sure, lenders parcel them like a gift. But take abroad the inflated promises and you'll see them for what they really are: debt repackaged as debt.

If yous're considering a 2d home mortgage, here are the main reasons why you should avert them at all costs:

They Put Your Home at Take chances

Your lender may act friendly when you're applying, but miss a payment, and they won't hesitate to take your home. Is that new backsplash in your kitchen really worth the risk of losing your house? No! It'southward but a backsplash! If you can't afford the renovation, then don't do it.

Renovating your belongings to increase your home's value is a corking thought. But there are better ways of doing it than risking foreclosure. Save, save, save! There's no better way to pay for a home renovation than to budget for it and pay in greenbacks.

They Can't Turn Equity Into Greenbacks

2d mortgages plough equity into debt. Despite the freedom they seem to give y'all, you must pay that money dorsum. 2nd mortgages put y'all and your family further into the hole of debt.

They Put a Strain on Your Income

By taking out a second mortgage, y'all become more vulnerable to a financial crunch. You may be able to brand the payments now, just if you lose your job or terminate up with a large medical beak, you could easily find yourself cached under too much debt.

Yous may think second mortgage rates aren't that bad. Simply when you lot add up all the costs—appraisement fees, awarding costs, closing costs—yous're non saving money.

How to Go Rid of a Second Mortgage

If you took out a second habitation mortgage just now you lot're following Ramsey's 7 Baby Steps, you lot might wonder at what point you should pay information technology off. Should you lot count it in your debt snowball and pay it off in Baby Stride 2? Or should you refinance it into your first mortgage and pay it in Baby Step 6?

If your 2nd mortgage is less than one-half your annual income, treat it as debt and pay if off in Baby Footstep two. Don't refinance it. Paying it off isn't unreasonable—so long as you make it a goal and stay focused.

However, if your second mortgage is more than one-half your annual income, refinance information technology equally part of your showtime mortgage and pay information technology off in Infant Step half-dozen. Take intendance of your smaller debts and work your mode to paying off the larger debt.

Need Help With a Mortgage?

For more than aid in making a smart decision when it comes to mortgages, talk to a good home loan specialist. For an easy way to find one we trust, connect with our friends at Churchill Mortgage. Like united states of america, they actually care about helping yous pay off your house equally fast as possible.

Connect with a mortgage specialist we trust!

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