A second mortgage is as the name implies — it is second loan on a home and follows the primary or first mortgage. Typically, such loans are made when the homeowner builds up enough equity in the home or the home’s value increases enough to free up funds for borrowing. Your credit must be very good to qualify for such loans.
A second mortgage is usually a home equity loan, but a home equity line of credit is not too dissimilar and should also be included a second mortgage. With a home equity loan, you are given a lump sum of cash to use for various reasons including making home improvements, consolidating debt or paying for college. With a line of credit, those funds are available to you as you need them — typically, you will get a HELOC when you make renovations and want to pay out your funds as needed.
As with any loan, there are risks involved. For instance, a second mortgage may be difficult for you to handle, increasing your monthly debt obligation accordingly. If you default on your loan, then the lender can repossess your home. However, that lender is second in line — your primary lender gets first dibs in a foreclosure.
The rate of interest you pay on a second loan is higher than a first loan. That’s because your lender assumes a greater risk when placing itself as the secondary lender. Even if your primary lender and secondary lenders are the same mortgage lender, you will still pay a higher interest rate on your new loan.
You may want to exhaust other options before taking out a second mortgage on your home. Those options include borrowing from your retirement account or selling assets such as stocks, bonds and precious metals to fund a renovation project.
It always pays to shop around for a loan. Your primary lender may be willing to extend a second loan to you, but you may find that rates are far favorable elsewhere. Talk to other banks, credit unions and mortgage companies about your options. Don’t forget to figure in your closing costs when comparing loan with loan.
See Also — A Second Mortgage and Your Home