2nd Mortgages - What Is A 2nd Mortgage?
If you own a house which is subject to a mortgage, that 1st mortgage lender has priority rights to the property should you default on the loan. However, if you have enough equity in the house still, you then have scope for a 2nd mortgage. The equity is the difference between the house value and the outstanding 1st mortgage.
For example, if your house is worth $200,000 and your 1st mortgage is $50,000, then you have $150,000 of equity in that house. That $150,000 could be used as collateral for a 2nd mortgage, in which a loan is made to you and secured against the house, being registered as a 2nd charge against the property.
In the event of default with payments, the house can ultimately be sold. In such a forced sale, the 1st mortgagor has the legal right to sufficient funds to clear the 1st mortgage. Then, should there be sufficient left, the 2nd mortgage lender has rights to what you owe them. Any balance left from the sale after that, would be yours.
Sometimes a forced sale of a house does not leave enough proceeds, after paying off the 1st mortgage, to clear the outstanding debt from the 2nd mortgage. In that case, the debtor will not only lose their house, but also have a remaining debt to pay. It is therefore very clear that a 2nd mortgage is not to be taken lightly, as there is a real risk of not only losing the property, but not being able to pay off the debt from the proceeds.
This sort of scenario is most likely for someone who has taken out the 2nd mortgage just before there is a collapse in property prices, or whose 2nd mortgage took their secured borrowings against the house to close to 100% or even above.
It is therefore wise to always bear in mind that your home is security for the 2nd mortgage, and you could lose it if you do not keep up with the loan repayments. You could be forced into a sale, which could realise less than you need to pay off the 1st and 2nd mortgages. That could leave you with no home, and a big debt owed to the second mortgage lender. It is therefore best to keep borrowing against the property to 80% and less. That way, if ever you are forced into a sale, there should be enough to pay off all the debts, and some to spare. Unless, of course, prices drop by 20% or more from the time you took out the loan.
Other things to bear in mind with 2nd Mortgages
When you take out a 2nd mortgage you should expect to pay a higher interest rate than you would for a 1st mortgage. This is because the lender has to take into account the fact that it is only 2nd in line to the proceeds of a forced sale in the event of a payment default.
There are usually various terms you can choose for a 2nd mortgage. Usually the terms available for 2nd mortgages are shorter than for a 1st mortgage. That is primarily because the amount of the 2nd mortgage is normally much lower than that of the 1st mortgage. Usually the repayment terms can be anything from 2 – 20 years, with the majority of 2ndmortgage loans being 5 – 10 years.
If you are considering a 2nd mortgage, it is best to shop around and compare lenders, so that you get the best deal you can!
The law and practices relating to 2nd mortgages can vary between countries, so the above should only be taken as a brief and general guide. You should check out the normal practices in your own location before taking out any 2nd mortgage.