How to choose a second mortgage
When you need extra money for a major home improvement, debt consolidation or significant expense, you may want to consider a second mortgage on your home. This type of mortgage loan is typically known as a home equity loan or a home equity line of credit and allows you to free up cash by borrowing against your home’s equity.
However, just as your house is collateral for your first mortgage, your house is again collateral for the second home mortgage. This adds to your financial exposure or risk of foreclosure on your home if you find that you are not able to make payments. Once you understand both the risks and the benefits of the second mortgage process and decide that it is beneficial for you, follow these steps explaining how to get a second mortgage.
1. Know your financial situation
Be sure to include your primary mortgage, second mortgages, real estate taxes, homeowners' insurance, and any mandatory fees in calculating total monthly home payment.
Incorporate your new, calculated monthly home payment into an overall budget to be sure you have confidence in your ability to make payments if you do take on a second mortgage. Your homework will help demonstrate to potential lenders that you meet their financial requirements for loan qualification.
2. Prepare your documents
Before you contact any second mortgage lenders, pull together the application information including employment history, financial history and documentation for all outstanding debt. Have a general idea of your credit score to ensure that you qualify and have an estimate of the rates and loan amount you can expect by using a loan amount calculator. With your numbers at hand, you can start to see how lenders will evaluate your second mortgage application.
3. Know your home’s value - calculate your CLTV
Your combined loan-to-value (CLTV) ratio uses the amount of home loans (including first, second mortgages, and the potential loan) and your home’s assessed value to generate a ratio. Most lenders will not extend loans to borrowers with a CLTV of greater than 80%. To calculate your CLTV, divide the remaining balance of your original mortgage (combined with any additional home loans, and your potential new loan) by the estimated value of your home. If your CLTV ratio stays below 80%, you will likely find lenders are more willing to approve a home equity loan or home equity line of credit. Some lenders, like Discover, can potentially lend up to 90% CLTV depending upon your credit score and desired loan amount.
Types of second mortgages include home equity loans and home equity lines of credit (HELOCs).
4. Know the second mortgage types
Second home mortgages can be home equity loans or home equity lines of credit (HELOCs).
A home equity loan is usually provided with a fixed rate. It is a fixed amount for a fixed term, sometimes up to 30 years (as is the case with Discover). You will receive a lump sum and begin to make monthly payments of interest and principal spread evenly over the loan term.
A HELOC is an open-ended loan that works like revolving credit. You will be approved for a maximum loan amount and can withdraw the money when you want it, in small or large amounts over time to the maximum credit limit. You’ll be required to make payments only after you take the first withdrawal. You’ll have the choice of fixed or adjustable rates. Be sure you understand how adjustable rates work before you commit to this type of loan. If your monthly payment goes up and you’re not able to meet the commitment, you could lose your home.