Traditionally, second mortgage loans are offered with a fixed loan amount
and a predetermined repayment schedule. Some lenders now offer lines of
credit that allow you to obtain cash advances with a credit card or to
write checks up to a certain credit limit. These often are called "home
equity lines" because the equity in your home is collateral for the amount
of credit you request. As you pay off the outstanding balance, you can
reuse the line of credit during the loan period.
Comparing a Line of Credit to a Second Mortgage Loan
If you are thinking about a home equity line of credit you also might
want to consider a more traditional second mortgage loan. This type of
loan provides you with a fixed amount of money repayable over a fixed
period. Usually the payment schedule calls for equal payments that will
pay off the entire loan within that time. You might consider a traditional
second mortgage loan instead of a home equity line if, for example, you
need a set amount for a specific purpose, such as an addition to your home
or a debt consolidation.
In deciding which type of loan best suits your needs, consider the
amount of credit granted under the two alternatives. In general, selecting
a second mortgage will allow you to borrow up to 100% of your home value
in selected areas.
The interest rate on Second mortgages is slightly higher than it would
be on the Home Equity Line of Credit simply because there is a much higher
risk to the lender in case of your default, however it will provide you
with a very affordable low monthly payment. In many cases a second
mortgage can be amortized over 25 years.
Second
Mortgage Repayment and Length
If you have a
fixed-rate loan, the interest rate is set for the life of the loan.
However, many lenders offer variable rate mortgages, also known as
adjustable rate mortgages or ARMs. These provide for periodic
interest-rate adjustments. If your loan contract allows the lender to
adjust or change the interest rate, be sure you understand when the lender
has the right to change the interest rate, whether there are any limits on
how much the interest or payments can change, and how often the lender can
change the rate. You also should know what basis the lender will use to
determine a new rate of interest.
Some second
mortgage loans may extend for as long as 15 or 20 years; others may
require repayment in one year. You will need to discuss the repayment
terms with the lenders and select one who offers terms that best suit your
needs. For example, if you need to borrow $20,000 to make repairs on your
home, you may not want a loan that requires you to repay the entire amount
in one or two years because the monthly payments may be too high.
BE SURE you
understand how much your monthly payments will be and what they cover.
Your lender should be able to give you this information in advance. With
some loans, you will be required to make monthly payments on the principal
and interest. With other loans, you may be required to pay interest only
on the borrowed amount; in these loans, your monthly payments will not
reduce the principal amount of the loan. With such a loan, you will be
required to pay back the entire borrowed amount at the end of the loan
period. These loans are popularly known as "balloon loans." If
your loan has a balloon payment, you should consider how you will arrange
to repay the entire amount when it becomes due.
On "home
equity lines," the lender does not have to give you the exact amount
of the monthly payment, but must explain how it is figured. This is
because the borrowed amount will vary and your outstanding balance will
change if you use the line of credit. However, if your monthly payment
term is 5% of the outstanding balance and your outstanding balance is
$5,000, your minimum monthly payments would be $250.
What
will it Cost?
The cost of arranging a second mortgage or a Home Equity Line of Credit
will vary widely. You can expect an appraisal fee, lawyer fee, broker fee
and sometimes even a lender fee on both of these products and these can
add up.
Many companies will charge a fee for lending you money. The fee is usually
a percentage of the loan and is sometimes referred to as
"points." One point is equal to one percent of the amount you
borrow. For example, if you were to borrow $10,000 with a fee of eight
points, you would pay $800 in "points." The number of points
lenders charge varies, so it may be worthwhile to shop around. If the fee
seems too high, you may be able to bargain for or find a lower fee. Be
sure to get the amount of the fee in writing before you take the loan.
Many states limit the amount of fees a lender may charge on a second
mortgage loan. You may want to check with your state's consumer protection
office or banking commissioner to determine whether there is a limit in
your state.
In practice, the only fee which you pay when the loan is approved is
the appraisal fee (about $150 - $200) and all the other costs are either
added to the money you need or deducted from the second mortgage proceeds
on closing.
What do I need to do to complete the
process?
Here is a list of documents you may need to obtain second mortgage
financing:
-
Copy of your Deed
-
First/Last Mortgage Statement
-
Copy of your Property Survey (or Title Insurance)
-
Employment letter
-
2 most recent pay stubs
-
Last 2 yr T4's or Notices of Assessment
-
Fire Insurance
2nd mortgages can offer a practical plan for
consolidating debts. Also, because 2nd mortgages may be tax deductible,
non-deductible interest payments may be converted into deductible mortgage
interest. There is no equity required, with 2nd
mortgages up to 125% loan to value. Your home is eligible for a loan, even
if you currently have no equity.
2nd mortgages are simple interest home loans,
which means interest is compounded annually, as opposed to credit cards
that charge interest compounded daily, where you can pay up to 3 times
more interest. You can use your mortgage to pay off credit
cards, personal loans, car loans, taxes, or most any other debt. The
flexibility of the program allows for a combination of paying bills,
improving your home, or taking cash out for your personal use.
