Typically, a second mortgage is defined as a secured loan that is subordinate to a first mortgage on the same property. The borrower can generally use the proceeds from a second mortgage for any purpose. Currently, a popular use of second mortgages is to pay off high-interest consumer debt, such as credit cards and car loans. Other common uses are for home improvements, college tuition, or to take a vacation. Second mortgages can even be used to secure lines of credit for future needs.

In the past, the total amount of debt from a first and second mortgage combined could not be more than 80% of the home's appraised value. Recently however, low interest rates and a hyper-competitive marketplace created a lending environment where some lenders were approving second mortgages that, when combined with the first mortgage balance, totaled as high as 125% of the home's appraised value.

Most competent financial advisors will warn against carrying that much debt on your home. At Micott Mortgage, I never recommend borrowing more than 100% of your home's value and rarely would I recommend a second mortgage with a loan to value of greater than 90%.

Because a second mortgage is a property lien that is placed behind the first mortgage, this means that in the event of a default, after the property is sold the first mortgage gets paid first, including any legal costs and other costs of the sale, before the second mortgage can be paid. If there is not enough money from the sale of the home, the second mortgage does not get paid.

A Higher Interest Rate

Before a lender is willing to loan money out for a home mortgage, he looks at the risk level to him to determine the interest rate to charge. That is why a high risk borrower with a poor credit history gets charged a higher interest rate compared to a low risk borrower with a strong credit history.

The same theory holds true with a second mortgage. Because the lender of the second mortgage is second to be paid off in the event of a default, and because there is a greater chance that there might not be enough equity in the home to pay off the second mortgage in full, second mortgages are usually given at a higher interest rate than are first mortgages; irregardless of who the borrower is.

2nd Mortgage Terms

Although you will have choices for terms when selecting your second mortgage, in general the terms given for them are shorter than those of a first mortgage. This is primarily because the amount of the second mortgage is generally much lower than that of the first mortgage.

Second mortgage repayment terms can vary considerably, so it is important that you look around for the one that is best for you. For the most part they range in length from 5 to 20 years, with the majority of second mortgage loans being 10 to 15 years. A select number of lenders will offer a 30 year amortization and some of them will balloon (set a maturity date) of 15 years. This loan is called a 30 due in 15. Generally, just like first mortgages, the longer the maturity, the higher the interest rates. Also, just like first mortgages, the higher the credit score (FICO) the lower the interest rate.

Types of Second Mortgages

Just as the length of the second mortgage can vary, so can other repayment terms. However, the majority of second mortgages are paid back in equal monthly payments with a portion of the payment going to interest and a portion to the principal balance, just like a first mortgage.

The two most common types of second mortgages are the fixed rate and the home equity line of credit (HELOC). The former is a standard offering. The home equity line of credit is a little unique and has been very popular. The loan typically calls for interest only payments for the first 5 to 10 years and then the line of credit is frozen at the outstanding balance of the loan. At that point, the loan payments are recast and a standard principal and interest payment is established for the remaining 10 to 20 years. The HELOC's are typically priced with a variable interest rate that is most commonly indexed to the New York City prime interest rate.

As with other loan pricing, the lower the FICO score and the higher the loan to value, the higher the interest rate for HELOC type mortgages.

When considering a second mortgage, do your homework and shop around to ensure that you get the best deal for you!