Second mortgages are similar to first mortgages because they help homeowners pay over time for home expenses. People may take out a second mortgage for multiple reasons, such as to fund household improvements, consolidate debt or pay for a child's education. Individuals sometimes use a second mortgage to avoid paying property mortgage insurance, or PMI, on the first loan. As with first mortgage loans, second mortgage loans use a person's house as collateral. Second mortgages often tap into a home's line of equity, which may have been compiled through previous monthly payments or an increase in market value.
Types of Second Mortgages
Like first mortgage loans, second mortgages come in several forms. A lump sum loan is a standard loan that provides borrowers with a one-time, or lump sum, payment that they can use as they wish. A lump sum mortgage loan requires the homeowner repay the loan over a period of time, which is generally accomplished in monthly installments. Each monthly payment includes a percentage of the interest payment and a percentage of the loan's balance. The term for this payment is amortization. Another form of a second mortgage loan is called a line of credit. When people take out a line of credit, they borrow money from a pool. This type of loan does not require borrowers to withdraw any money, but they can do so if they choose. A line of credit establishes a maximum limit that people can take out. Borrowers may continue to borrow, usually multiple times, until they reach that maximum limit. A line of credit works similarly to a credit card in that once people repay the credit they can borrow against it again. Depending on which type of loan people choose, they may have several options of a rate choice. Rate choices can be either a fixed interest rate, which sets a certain interest rate payment each month, or a variable rate loan, which is the most common choice for a line of credit.
Advantages and Disadvantages of Second Mortgages
Like primary mortgage loans, secondary mortgage loans have advantages and disadvantages. Benefits of second mortgages are they let borrowers take out a fairly large amount of money, which generally amounts to 80 percent of the home's value. Second mortgages may have lower interest rates than other types of loans, and people may get a tax break on a second mortgage.
However, second mortgages also have disadvantages. The downsides of these loans are that homeowners run the risk of foreclosure if they don't make loan payments on time. Second mortgages can also be expensive. The price tag for a second mortgage often comes with fees for related services like origination fees, appraisals and credit checks. While second mortgages can have lower interest rates than credit card interest rates, many have higher interest rates than primary loans do. This is due to the fact that second mortgages are considered to be riskier for lenders than primary mortgages. Second mortgages can be found from several sources including banks and credit unions, online lenders and mortgage brokers. Most people shop around for quotes to find the best lender for their needs.Learn more about Credit & Lending