What Is a Second Mortgage? (And How To Get One)

Article Summary:

A second mortgage is a loan that uses the equity built up in your house as collateral. To obtain a second mortgage, you typically need to have a credit score of 620 or higher, as well as a debt-to-income (DTI) that is under 43%. In many cases, banks also will require a minimum amount of equity paid off on your first mortgage.

TV ads portray second mortgages as a way to fund really expensive items. Believe it or not, that’s not just a television trope. Second mortgages are a real thing, and they can help you afford the more difficult expenses that life throws at you. But how do you get one?

A second mortgage requires a first mortgage, a certain amount of equity in your home, a FICO score of at least 620, and a decent debt-to-income ratio. In many cases, the requirements of a second mortgage mirror those of a mortgage.

What is a second mortgage?

When you get a second mortgage, you borrow money against the portion of your home’s value above what you still owe on it. In other words, you borrow against the equity of your home. This equity combines what you’ve paid off on your first mortgage with any increase in your home’s value. Like your first mortgage, this one comes with a lien against your home that allows the lender to foreclose if you fail to meet your obligations.

Lenders can offer a second mortgage in the form of a loan or a line of credit, depending on what you need. If you default on this loan, they have the right to foreclose on your home — even if payments on your existing mortgage are current.

Mortgages, loans, and liens. When most people say “mortgage,” this is shorthand for “mortgage loan.” The same is true through most of this article. Technically, though, a mortgage is the agreement that lets you get this type of loan. In order to be able to foreclose if you default, your lender must have a security interest in (a lien against) your property. A mortgage is the agreement that grants your lender this security interest. In some states, the agreement is a deed of trust rather than a mortgage.

How does home equity work?

Every time you pay a portion of your mortgage, you are building equity in your house. In other words, every mortgage payment gives you that much more ownership in your house. Every mortgage payment pays both principal and interest. The portion that pays principal increases your equity.

If you buy a home and pay down your loan balance, and if property values don’t drop too much, you’ll have equity in your house. The more payments you make, the more you build equity. You have a right to authorize a lien against this equity. This means that your second mortgage lender can use your home as collateral. If you fall behind on payments, you could face foreclosure.

How does a second mortgage work?

When you pay the principal amount of your home’s loan, you build equity. And equity means ownership. Second mortgage lenders let you leverage that ownership.

In order to get a second mortgage, you have to jump through the same hoops that you jumped through to qualify for your first mortgage. If you are able to do that, you’re golden in most cases. This comes with good new and bad news.

The good news is that you can use your home equity loan for anything that you want. The bad news is that home equity loans are tied to your property. If you do not keep current with your monthly payments, you could face foreclosure and lose your home.

Get approved to refinance

A mortgage refinance differs from a second mortgage in that it replaces your existing mortgage with a new one. Since your available equity is the same either way, cash-out refinances will probably allow you to pull the same amount of money out of your property as second mortgages.

Getting approved for a refinance or second mortgage will mean meeting standards much like what you had to meet to get approved for your original home loan, though all mortgage lenders do have their own requirements. In order to get approved, you should try to make sure that you have the following:

  • A credit score of at least 620
  • A debt-to-income (DTI) of 43% at most
  • At least 15% equity in your home

It is possible to refinance with a lower credit score or less equity. However, if you want to get better interest rates or lower monthly payments, your score should be higher. You can read more about refinancing here. Here are some good tips on how to improve your credit score.

What’s a cash-out refinance?

A cash-out refinance is just what it sounds like. It’s a mortgage refinance structured so you receive some money when first approved for the loan. The amount of money you get in cash with a refinance depends on how much equity you have in you home when you refinance.

With a refinance, you get a new loan that pays off, and replaces, your existing mortgage. Rather than just covering your outstanding home loan balance, a cash-out refinance borrows additional money against the equity you’ve built up. After a cash-out refinance, you will have less equity in your home but more money in your bank account.

Second mortgage vs. refinance: what’s the difference?

We’ve mentioned refinancing and noted the basic way it differs from a second mortgage. Here’s a fuller list of key differences:

  • Refinancing is replacing your old mortgage loan with a new one. It does not act as a personal loan and isn’t meant to cover expenses unrelated to your house.
  • Refinancing means you may have the terms of your primary mortgage change. Getting a second home loan means your existing loan will stay the same. Refinancing means that you may pay interest differently, or that your fixed interest rate may change.
  • Second mortgages use home equity but act much like personal loans. Yes, you will still have to pay your primary loan. But you will have what amounts to a large personal loan or line of credit that you may use however you want.
  • If you refinance your home, you will not have to continue paying your existing mortgage. The new mortgage replaces it, so you still have the same number of bills. On the other hand, a home equity loan will add one more bill for you to worry about.

Types of second mortgages

It’s important to realize that there are different types of second mortgage loans. They’re not all equal, and they do not function the same way. Here’s what you need to know about each.

Home equity loan

A home equity loan acts like most other personal loans on the market. This is a second mortgage that doles out all the money in a large lump sum. It then has to be paid back via monthly payments. You do not have to use all the money at one time. It will sit in your bank account in the meantime.

Home equity loans are not a matter of “take what you need.” You apply for a specific sum, then you get approved. A home equity loan can have a payback time frame of five to 30 years, depending on the terms of the loan and the original loan balance.

Home equity line of credit

A home equity line of credit, or HELOC, is a little bit different. Much like with regular loans, you have to apply and authorize a lien on your home. However, this acts as a line of credit that you can pay off in full and use when you need it.

Home equity lines are not disbursed in a lump sum like personal loans. Instead, they work more like credit cards. You get to choose when you use the line of credit, and how you use it. If you get awarded more than what you need, you don’t have to use it all.

With a HELOC, your monthly payment is based on how much you’ve actually borrowed using the credit line.

Shared equity agreements

Shared equity agreements, also known as home equity investments, are not technically loans but they are becoming a popular form of home equity financing. They allow you to cash out on your equity without getting into debt.

It works like this. Investors give you a lump sum in exchange for a share in the future value of your home. When you sell the house (or when the contract term ends), the investors receive their share from the sale. If the value of the house increases, so does the amount the investor receives. If the house drops in value, the investor also shares in the loss. Here is our list of the best home equity investments.

Second mortgage rates

Curious about today’s mortgage rates? Want to see how much a second mortgage will run you? Refinancing your home can be a daunting task, and it’s a move that can make or break your finances. To find out whether it’s the right choice for you, check out the current mortgage rates of borrowers before you choose a lender. We recommend comparing at least three mortgage lenders before making a decision. These free tools provide an easy way to compare the rates of home equity loans, HELOCs, and shared equity agreements.

Pros and cons of a second mortgage

Like any other type of loan, getting a second mortgage can be a good thing or a bad thing. Weighing the pros and cons can help you figure out what’s the right move for you.

WEIGH THE RISKS AND BENEFITS

Here is a list of the benefits and the drawbacks to consider.

Pros
  • You can use it on anything you want. It’s like a personal loan for your needs. If you can’t get an unsecured personal loan for the sum you need, this will do.
  • You get more money through this than you would with most other types of loans. Since the loan’s secured by valuable real property, lenders will let you a borrow a large amount based on how much equity you’ve built up in your home.
  • The interest rates on these loans are far lower than those on a typical personal loan. This is one of the biggest reasons you may want to consider a second mortgage.
Cons
  • If you default on this loan, you can lose your home. This is not an unsecured personal loan. Mortgage lenders have the right to foreclose on your home if you default on this loan.
  • It will mean another bill on your plate. You will have to pay your first mortgage as well as your second mortgage every month.
  • You still have to qualify for it, and it will have the same requirements as a mortgage minus the down payment. Meeting the qualifications could be rough, especially if you’ve suffered any financial setbacks lately.

Should you get a second mortgage?

Second mortgages, and home equity loans in general, can be pretty useful. Getting a second mortgage could enable you to do a lot of things. Here are some of them.

Pay off credit card debt

If you have a high amount of credit card debt, a second mortgage could be a good idea. A home equity loan will allow you to get rid of the debt on your cards with funds you then pay off at a much lower rate. A second mortgage can also be useful for debt consolidation if you have other high-interest debt.

Covering revolving expenses

Do you have certain expenses you want to get rid of, at least not have to deal with for a while? Your home’s equity can help. Funds from a second mortgage can cover these expenses while you struggle with underemployment or pay off medical bills you hadn’t planned for.

Can you get a second mortgage if you have bad credit?

If you want to get another mortgage with bad credit, things are going to be rough. It is possible if you have enough equity in your home. However, you will often have to go to multiple lenders. Some lenders are more flexible with credit scores than others.

FAQ

Can you tell me how to get a second mortgage to buy another house?

Getting a second home loan can help you buy another house or a rental property. It is often a good way to get the down payment you need for the second home. To do this, you go through the standard application process for a second mortgage on your current home.

If your application’s approved, and if you have enough equity in your home, this should give you enough money for a down payment on your new home. If the only thing keeping you from qualifying for a mortgage on the new home was the missing down payment, you should now be good to go.

This is one common way that a second mortgage on a first home can help you qualify for a first mortgage on a second home.

Are you allowed to have 2 mortgages?

Yes, you are definitely allowed to have two mortgages. Plenty of people have multiple mortgages. Most mortgage lenders will allow for it, provided you can afford the payments and are willing to get mortgage insurance on both.

How much deposit do I need to buy a second home?

Most mortgage lenders will require a down payment of 10% before they’ll approve your application for loan to buy a second home. This is a minimum.

If you’re buying the second home purely as an investment, not as a residence, you may be asked for a 15% down payment. Your best bet may be to assume you will need 20% and prepare accordingly. Secondary home loans can have more stringent requirements.

Are second mortgage rates higher than first mortgage rates?

Generally speaking, second mortgage rates are going to be somewhat higher than primary mortgage rates. How much higher will vary from lender to lender and loan type to loan type.

Key takeaways

  • A second mortgage uses a lien on your home’s equity to pull a loan that is larger than most unsecured personal loans would be.
  • Second mortgages do not refinance your home, so they don’t replace your primary mortgage.
  • They are available in both a loan form as well as a line of credit.
  • Defaulting on your secondary mortgage can cause foreclosure, even if you are current on your primary mortgage payments.

The bottom line

A second mortgage is a good way to get a large personal loan against the equity of your home. Qualifying for a second home loan will be about as hard as qualifying for your first. Second mortgages can be standard loans or lines of credit.

Your second mortgage can be used however you think best, such as to buy an additional house or pay college tuition. However, taking on a second home loan has risks, most notably the risk of a foreclosure if you default. So, approach with a plan and a lot of caution. And make sure you shop around and find the best second mortgage for your needs.

Of course, finding the right mortgage can be daunting. But Super Money makes it easier. Before you decide to apply with one lender, make sure that you check out our lists of the best mortgage companies and read up on the best ways to ensure you get approved for your second mortgage.

Article Sources & Additional Reading
  1. A Checklist for Refinancing Your Mortgage — SuperMoney
  2. Complete Mortgage Guide — SuperMoney
  3. Is FICO The Only Credit Score I Need To Worry About? — SuperMoney
  4. The Definitive Guide to Mortgage Rates — SuperMoney
  5. What is a FICO score? — Consumer Financial Protection Bureau (CFPB)
  6. What Is a Secured Debt? — Nolo
  7. What Is a Silent Second Mortgage? – SuperMoney