Get a Second Mortgage on Your Home

Second mortgages are a popular way for homeowners to get approved for a loan. If you are sure you will be able to pay back the loan, it can be a fairly secure financial decision. However, you should do some homework and serious number crunching before signing on the dotted line. Knowing your equity and credit history will help you find the lowest interest rates and fees. You can also calculate how much money you can expect to borrow based on your equity and the appraised value of your house.

Steps

Doing Your Homework

  1. Understand the risk of a second mortgage. A second mortgage adds to your monthly bills. It comes at a high interest rate because it is a risky investment for lenders, since they would be paid off after the primary mortgage company in the event of foreclosure. Seriously consider if you want your house to serve as collateral for this kind of loan.
    • Using a second mortgage to pay off a high-interest loan may help you lower the interest you're paying in the short term. However, it is very risky to put your house on the line to reduce your debt.
  2. Do a realistic budget. You want to make sure payment on a home equity line of credit is affordable. In general, you only want a third of your combined household income to go to housing costs.[1] This includes any rent, mortgage payments, utilities, property taxes, homeowner's insurance, and any additional community fees.[2]
  3. Determine what kind of second mortgage you would like. There are two main kinds. Home equity lines of credit (HELOCs) are open-end, meaning that you can continue borrow money up to the limit even as you pay back the loan. A basic home equity loan is closed-end, meaning that you get one sum and may not borrow more money later.[3]
    • HELOCs are similar to a credit card – you only have to pay back the amount you borrow. This may be more useful if you need a small, but yet to be determined, amount of money.
    • One drawback of a HELOC is that some lenders will not let you take out additional credit if the value of your property drastically decreases.[4]
    • Home equity loans are good for a lump sum. If you have, for example, an estimate for building an addition to your house, you know exactly how much money you will need. This situation would call for a home equity loan.[5]
  4. Find out your credit score. In the world of money lending, your credit score is used to approve or deny your application. It also determines what interest rates, or APR, you qualify for. You can get a free credit report from a federally approved agency such as Experian or Equifax once a year. This should give you an idea of how good your credit score might be. However, remember that the free credit report does NOT include your score. You have to pay to see that.
    • If you have never seen your score before, it is best to pay for your actual credit score. However, you can get a free FICO score estimate on the internet. This scale is used as the basis of many credit scoring agencies.[6]
    • For more on checking your credit score, see Check Your Credit Score.
  5. Determine how much equity you have in your home. Equity is the difference between the value of the house minus the amount you owe. That means if you still owe $60,000 on a $100,000 house, your equity is $40,000. This number will be used by lenders to calculate how much money they can loan you with a second mortgage.
  6. Have your house appraised. The other number you need to know up front is the value of your home. Some factors to consider when estimating this are the price you paid, any changes in neighborhood, and any additions you have made. You can also look at similar houses in the neighborhood that have gone on the market recently. Consider having your house appraised by a professional before you apply for a second mortgage.

Finding the Best Rates

  1. Check with your current bank or mortgage company. If you have a good history of making payments on time, your bank will probably be happy to refinance your home or approve a second mortgage. Since they have already had an insight into your finances, they will also be able to give you good advice. Ask them for some preliminary information and even an estimate before you get too serious about signing any papers.
  2. Look around with other banks and lenders. As with any financial decision, you want to have options whenever possible. Ask your friends and family who they have gotten loans through before. Search the internet for local banks and lenders to see who approves home equity loans or HELOCs. Get any estimates you could get together and look for the best rates.
  3. Apply for the best interest rate you qualify for. Once you have looked at several financial institutions, you should have an idea which suits your needs the best. Try not to get sucked into a bad rate with unnecessary add-ons. For example, some institutions offer you insurance. This is unnecessary, since you certainly already have house insurance.[7]
  4. Look at the type of interest rate. The 2 basic kinds of interest rates are adjustable (ARM) and fixed rate (FRM). A fixed rate mortgage stays the same from beginning to end. An adjustable rate can fluctuate based on the market, called the index.[8] This may cause your interest rate to go down, but the lender likely has caps on how much it can change.
    • Knowing which is up to a variety of factors. A simple one is whether you have wiggle room in your budget for interest rate increases. If not, go with an FRM. This will help you create a budget.[9]
    • On the other hand, going with an ARM is a way to avoid having to refinance your mortgage in the future, which has fees associated with it. Instead, your interest rate is constantly being reappraised.
    • If the bank seems to be trying to sell you on a FRM, however, it may be because the loan index is consistently decreasing. Ask them how interest rates on similar loans have fluctuated in the last couple years.
  5. Read lending disclosures carefully. Find a loan that does not include penalties if you are late with a payment. One late payment could result in dramatic increases in the loan's interest rate and required monthly payment.

Tips

  • Understand the difference between fixed and adjustable rate second mortgages as well as loans that attach balloon payments. Balloon payments are large sums that are typically paid at the end of the loan period.
  • Take additional costs of the loan into account when comparing second mortgage loans. Additional costs could include application fees, closing costs and charges for appraisals.

Sources and Citations

  1. ↑ http://portal.hud.gov/hudportal/documents/huddoc?id=affordable-housing.pdf
  2. ↑ http://files.consumerfinance.gov/f/201503_cfpb_your-home-loan-toolkit-web.pdf
  3. ↑ http://www.consumerfinance.gov/askcfpb/105/what-is-a-second-mortgage-loan-or-junior-lien.html
  4. ↑ http://www.consumerfinance.gov/askcfpb/107/my-lender-offered-me-a-home-equity-line-of-credit-heloc-what-is-a-heloc.html
  5. ↑ http://www.consumer.ftc.gov/articles/0227-home-equity-loans-and-credit-lines
  6. ↑ http://www.myfico.com/Fico-Credit-Score-Range-Estimator/
  7. ↑ http://www.consumer.ftc.gov/articles/0227-home-equity-loans-and-credit-lines
  8. ↑ http://www.consumerfinance.gov/askcfpb/1949/for-an-adjustable-rate-mortgage-arm-what-are-the-index-and-margin-and-how-do-they-work.html
  9. ↑ http://www.bankrate.com/finance/mortgages/arm-vs-fixed-rate-mortgage-1.aspx
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