What is a Second Mortgage, and How Does It Work?

Are you looking to remodel your home, or perhaps consolidate a higher-than-average amount of credit card debt? You may have heard that a second mortgage is a good option. But what does that entail? How much will it cost? And doesn’t a mortgage require a high credit score and a lot of paperwork?

Here’s what you need to know about second mortgages.

What You’re Probably Looking for is a Home Equity Loan

Second mortgages are junior liens secured loans in addition to your primary mortgage. There are a few types of second mortgages. But the term “second mortgage” can mean two things:

You could be applying for a second home loan to buy a second home.

Most likely, though, you’re considering a home equity loan or home equity line of credit (HELOC). These loans allow you to borrow the equity you’ve built up in your home.

Equity is the difference between the value of your home and how much you still owe on your first mortgage.

These loans are often called second mortgages because they leave you with two monthly payments, one for your primary mortgage and one for your loan. These can be better borrowing choices than personal loans because the interest rate is currently around 7%, compared to a personal loan that can have APRs as high as 30%.

There is also the piggyback loan. This kind of second mortgage is taken out simultaneously with the primary mortgage.

Home Equity Loans vs. HELOCs

There are two different types of loans that use your home equity.

  • Home equity loan: The lender provides loan proceeds as a lump sum, and you will have a fixed monthly payment. You’ll also have a fixed repayment period. Home equity loans have fixed interest rates, meaning the rate you receive will be the rate you pay for the loan term. These loans usually have slightly lower interest rates than HELOCs.
  • Home equity line of credit (HELOC): This revolving line of credit allows you to borrow from your home’s equity, using it like a credit card. You will have a fixed “draw period” and a credit limit. A HELOC is ideal for homeowners who need flexibility in their loan amount. The interest rate is usually variable, like a credit card. You will not have to make monthly payments or pay any interest on the loan when you aren’t using it. HELOCs usually have slightly higher interest rates, but you don’t pay interest unless you’re using the loan, so the overall borrowing cost can be lower.

The interest on these loans can be tax deductible if you use the loan proceeds to make home improvements or renovations.

Home Equity Loan Costs

You may have to pay specific fees for both home equity loans and HELOCs. These can include:

  • Origination fees
  • Application fee
  • Appraisal fee
  • Credit report fee 
  • Title search fee 
  • Attorney and notary fees

Not all lenders charge these fees, so it’s important to weigh those expenses before choosing a lender. Second, mortgage lenders that promise a loan with no fees will often charge a higher interest rate to offset the cost. 

A Note About FHA loans and VA loans: These types of loans have different rules. The Veterans Administration and Federal Housing Administration do not issue home equity loans. Instead, if you require a VA- or FHA-backed loan, you must choose a cash-out to refinance. Otherwise, you will have to apply for a conventional home equity loan or home equity line of credit. 

Comparing the fine print is imperative. If one lender’s fees are high on the front end, they may have lower interest rates, saving you more over the life of the loan.

How Does a Second Mortgage Work?

You will generally need to do the same things you did to qualify for your primary mortgage, though the requirements are usually less stringent. Applying includes submitting an application to a lender and providing documentation regarding your income, debts, tax records, etc. You may also need to pay for a home appraisal to confirm the value of your home.

Equity requirements vary, but most lenders require a minimum of 15% to 20% equity in your home. You can often borrow as much as 85% of your home’s value minus any current mortgage debts. For example, if you have a home appraised at $300,000 and $150,000 remaining on your mortgage, you may be able to borrow as much as $105,000 through a second mortgage loan: ($300,000 x 0.85) – $150,000. 

The new loan will leave you with two monthly payments, so be sure you can afford both. Otherwise, you’re putting your home at risk of foreclosure.

Requirements for applying for a second mortgage include the following:

  • At least 15% to 20% equity in your home
  • Your current mortgage has to be less than 85% of the home’s value
  • A credit score of 600 or higher 

READ MORE: What is a reverse mortgage?

How Long Does It Take to Get a Second Mortgage?

It will usually take about a month to complete the process, but realistically expect three to six weeks from start to finish. Things will move more quickly if you have all your pertinent, up-to-date documents ready.

During the underwriting process, an underwriter will review your mortgage application and decide whether you are likely to be able to repay the loan. The underwriter will determine if you qualify for the mortgage. Then, the underwriter will approve, hold or decline your mortgage application.

He will perform an income calculation to verify your debt-to-income ratio, reconcile loans for accuracy, manage all aspects of the loan origination processing, prepare and respond to compliance-related inquiries, perform a risk analysis, and more.

READ MORE: Can you refinance a home equity loan?

Can I Use a Home Equity Loan to Buy a Second Home?

Yes. If you’re looking to buy a second home, you’ll have better approval chances with a home equity loan than an additional mortgage. Buying with your current equity can also allow you to make a larger down payment or even pay the entire cost of the second house outright. Taking the equity in cash makes you the equivalent of a cash buyer, which makes your purchase offer more enticing for sellers. That can be important in a tight real estate market. 

Private mortgage insurance might be worth the risk in a fast-rising market. The maximum loan-to-value (LTV) on a home equity loan is about 80-85%. If you fall below the 20% equity in your home, you will be subject to private mortgage insurance on top of your original loan. You will need to do the math to see if it makes sense to overextend yourself to purchase an investment property and decide to take on private mortgage insurance. You are essentially borrowing from yourself, and investing in a second home can be an excellent way to bump up your investment portfolio.

Should I Get a Second Mortgage?

It’s essential to consider the risks. One great reason to consider a second mortgage is if you’re using the money to increase the value of your home. Not only will this help you to build more equity, but the interest on the loan may be tax deductible.

If you’re considering a second mortgage for debt consolidation, buying a new car, or paying for a luxury vacation, you may want to explore other types of loans. Your home equity is one of your most significant assets. Consider this carefully before you put it at risk.

Check out this video to explore a few reasons a second mortgage might work for you.

Where to Find Second Mortgage Rates

Be sure to get quotes from multiple lenders, including credit unions and online lenders, and closely compare them. Even a slight difference in interest rates increases over any mortgage loan’s life.

Home Equity Loans vs. a Cash-Out Refinance

Cash-out refinancing involves getting a completely new mortgage. You will use the loan proceeds to pay off your current mortgage and get the rest of your home’s equity (up to 80% of your home’s value) in a lump sum. Your credit score will matter, and you’ll have to go through the complex — and expensive — application and approval process used for your original home mortgage. Expect to pay closing costs of up to $5,000. The remaining 20% of your home’s value is a new down payment. If you don’t have enough equity remaining in your home after cashing out your original mortgage, you may have to pay private mortgage insurance or PMI. 

Refinancing can be a good option if you have a variable rate and can refinance to a lower fixed rate. Still, rates are currently at historic highs, so now is probably not the ideal time for a total refinance. 

The Bottom Line

While a second mortgage can make a lot of sense for most people (especially considering the alternatives), it’s not the right move for everyone. You are putting your home at risk. Do your homework, ask lots of questions and consider your reasons carefully before taking out a second mortgage.


How Long Does Underwriting Take for a Home Equity Loan?

Each situation is different, but underwriting can take a few days to several weeks. Typically, you can expect between three to six weeks from start to finish. Some things that can hold up the process are missing signatures or documents and issues with the appraisal or title insurance. Be very responsive to requests for information, and if you need more time to gather requested documents, continue to communicate the status with your mortgage loan officer.

What is a Loan-to-Value Ratio, and How is it Calculated?

LTV represents the proportion of an asset’s value that a lender is willing to provide debt financing against. It’s usually expressed as a percentage. The loan-to-value can be easily calculated by:
LTV % = (Loan Amount / Asset Value) *100
Let’s say a lender has a minimum down payment requirement of 20% for a home purchase. So it is a 20% (0.20) down payment toward the purchase price. In that case, the maximum LTV would be 80% (1-minus 0.20), multiplied by 100 to express as a percentage.

How Can I Learn about my Home’s Current Market Value?

There are two ways to know your property’s market value. One is to order an appraisal from an official state-licensed property appraiser. The second is to contact a real estate professional for a broker price opinion or BPO. The latter is free but doesn’t hold as much weight as an appraisal report completed by an official state-licensed appraiser.

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