How Do We Get a Second Mortgage?

Question: How Do We Get a Second Mortgage?

A reader asks: "My wife and were thinking about buying a bigger home because we just discovered that we are pregnant. This will be our fourth baby. We really need something bigger than 2 bedrooms and a den. My father-in-law says we should add a second floor to our existing home by getting a second mortgage. But I've heard banks don't make second mortgages anymore. How do we get a second mortgage? What does getting a second mortgage entail?"

Answer: Prior to the boon years of the late 1990s and early 2000s, almost anybody could get a second mortgage. Many home buyers obtained a second mortgage to help them buy a home. Typically these were piggyback loans, consisting of an 80% first mortgage and a 20% second mortgage.

Those loans have vanished. But it doesn't mean a home owner can't get a second mortgage. However, most lenders want to see that a home has equity before the lender will make a second mortgage. In the old days, when a person could qualify by fogging a mirror, a borrower could get a second mortgage up to 100% of the home's market value, and sometimes for more than that. Today, banks want tangible security, backed by solid equity, for that loan.

What is a Second Mortgage?

A second mortgage is junior in position to an existing first mortgage. Instead of refinancing a first mortgage by replacing it with a higher mortgage, a borrower may prefer to take out a smaller second mortgage.

For example, let's say your home is worth $200,000. You owe $120,000 on a first mortgage. A bank might use the 80% rule and say you are eligible, if your credit scores are good enough, to finance 80% of $200,000 or $160,000.

After subtracting your first mortgage of $120,000, you may be able to borrow $40,000 on a second mortgage. The second mortgage is then recorded in the public records and becomes a lien against your home.

Reasons to Get a Second Mortgage

The interest rate and repayment schedule may be more favorable on a second mortgage than refinancing your existing first mortgage into a larger loan. For example, if your $120,000 mortgage is payable at 6.5%, your second mortgage might be available at a lower rate, perhaps 5% or less, depending on fluctuations in the market place.

Moreover, the costs to obtain a $40,000 loan may be very small in comparison to the costs to obtain a $160,000 loan. Some second mortgages do not cost the borrower any upfront money at all -- there may be no closing costs.

What Can You Do With the Money From a Second Mortgage?

A lender will ask on your loan application why you want to get a second mortgage. You might think it's none of the lender's business what you do with your money, but the lenders don't agree with you. Here are reasons a lender might consider:

• Home remodeling / additions
• Home improvements
• Education
• Emergency medical
• Reliable investments
• Care for dependants
• Debt consolidation, if it makes sense
• Transportation

Lenders aren't too thrilled to give you money to spend on depreciating assets or entertainment expenses, but it doesn't mean they won't.

_{At the time of writing, Elizabeth Weintraub, DRE # 00697006, is a Broker-Associate at Lyon Real Estate in Sacramento, California.}