How does a second mortgage work? If you are a Canadian homeowner, you should be familiar with how a second mortgage works. This can be a great option for people who need some money for investments, livelihood, etc.
In essence, a second mortgage is much like the first, but you get to use the owned equity that you have in the home (minus the primary balance).
In this article, we will cover everything you need to know about second mortgages so that you can decide if it’s the right product for you.
By the end of this article, you should feel acquainted with the type of loan and how to qualify for a second mortgage.
What Is a Second Mortgage?
A second mortgage is another mortgage registered against the title of your home and can come from your existing lender or a new lender. It is taken out on the property that has already been mortgaged previously. When the mortgage owner makes their payments, they must also pay off the second mortgage.
Still unsure of how a second mortgage loan actually works? Well, the quantity that you can borrow will depend on how much equity you hold in the home. For instance, let’s say your home’s current market value is $400,000 and the balance is $100,000. The total 1st/2nd mortgage you can get is up to 80% of the value, so you can get a second mortgage worth about $220,000.
Lenders of second mortgages care more about the equity percentage in the home than your credit score or non-provable income. If you’re interested in another mortgage, it is important to know your home equity position.
What happens to your second mortgage while you pay it back? Well, the terms for second mortgages are usually a minimum of 1 year. During this time you are responsible for paying the monthly interest portion of the payments.
Towards the term end, you can pay back the total amount borrower or choose to take out a new mortgage or extend the loan again for another term. The most important factors in deciding qualification for a second mortgage are equity, property, credit score, and income.
The more equity you have, the more likely you are to get a second mortgage. A dependable source of income will increase the qualifying chance for a second mortgage at better rates.
The credit score will also help determine the second mortgage rates. The higher your credit score, the better your chances are of getting a much lower rate. Finally, lenders must secure their investment in the property if an applicant cannot keep up with their payments.
Why Are Interest Rates Higher?
Second mortgage lenders take on a greater risk than the lender of the first mortgage because they will be in a second property title position.
For instance, if homeowner defaults on their payments and the property are taken away from them, the lender(s) is paid out first. The second mortgage lender takes the risk of not being paid out in full, because there might not be enough leftover.
Due to this risk, second mortgage rates are almost always higher. When comparing a HELOC, the rates will always be higher.
Can You Get a Second Mortgage With Poor Credit?
It’s often asked if people can get a second mortgage with a less-than-perfect credit score. Many lenders will provide second mortgages to people with poor credit, including people with proposals or previous bankruptcy.
To get another mortgage with poor credit, the loan-to-value ratio is very important. Lenders normally like to keep the loan-to-value ratio equal to or lower than 80% of your property’s value.
It’s important to note that even with poor credit it is still possible to get the help you need. Mortgage brokers have relationships in the industry with many private lenders, many of whom will provide loans to people with ratings under 500.
It’s much easier to get a second mortgage with poor credit than to get a HELOC. However, accepting a second mortgage with poor credit means you often have a higher interest rate than a secured line of credit.
So to recap, as long as your equity is plentiful and you can pay the slightly higher interest rates, you can get a second mortgage with bad credit.
Pros and Cons of Second Mortgages
For the final section of this article, let’s examine the pros and cons of second mortgages. Knowing this will help you decide if a second mortgage is even right for you at this point. It should also provide some clarity on how a second mortgage works.
First, you don’t have to disregard your first low-rate mortgage and suffer the penalties. Since there are many providers, both private and institutional, it’s easy to arrange a second mortgage.
Most second mortgages have one-year terms and interest-only payments. Furthermore, up to 80% of your appraised home value can be arranged for the secondary mortgage (minus the quantity left from the first mortgage)
The Not-So-Disadvantageous Cons
The second mortgage almost always has higher interest rates than principal mortgages but still lower than unsecured lines of credit or high-interest credit cards.
Like your first mortgage, a second mortgage can lead to a foreclosure if you as the homeowner defaults on the payments.
The second mortgage lender can purchase the first mortgage and foreclose. This means as a homeowner you can lose access to your home.
Next, amortization can last a longer period of time with second mortgages. The repayment might still be required in a single year, depending on loan structure, terms, and conditions.
Mortgage Services for You
Now that you know how a second mortgage works, you are that much closer to understanding how to effectively use a second mortgage. A second mortgage is a great opportunity for people who are looking for an alternative to traditional methods of mortgage financing.
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