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Second Mortgages, How Do They Work?


Second Mortgages: How They Work and How to Get the Best Rates


Money does not grow on trees. But it does grow in your home in the form of equity: the value you have created by paying off your mortgage added to the appreciation due to the market. This value gives you access to equity.  If the equity is 20% or less, you will require a second mortgage in Canada as the government doesn't allow us to lend over 80% of the house value.


Why Get a Second Mortgage?


Depending on your circumstances, there can be several reasons why you may want to apply for a second mortgage.


If you’ve collected debt over time, maybe student loans or credit cards, accessing money through a second mortgage could help consolidate that high-interest debt. With money from a second mortgage, obtained at a potentially lower rate, you can focus on paying off that other loan sooner than later.


If your loans are all paid off, you can eye a second mortgage for an investment property or maybe a family cottage.


You can also invest the money from a second mortgage into your kids’ education.


This additional money can also come in handy if you’re looking to make major renovations to your current property. Maybe it’s for adding a granny suite or finishing that basement so you can rent it out.


Whatever the reason, this money is yours to access and use.


What is a Second Mortgage?


Before you dive into mathematics and what rate you will get, you need to get a good handle on what is a second mortgage.


Buying a house isn’t merely buying yourself and your family a place to live — in most cases, it’s also considered a secure investment.


Buying any property, whether commercial or residential or agricultural, requires a loan from a lender. That loan is called a mortgage. 


As a property owner, each time you make a payment toward your mortgage, you build equity. This is the difference between the current value of your home and how much you still owe on your property mortgage. For example, if your home is worth $950,000 (humor us) and you still owe $700,000 on your mortgage, you have already accumulated $250,000 in home equity.


How much you’ve paid off in your primary mortgage will determine how much your second mortgage will be.  In most cases, we refinance with an institution but when the equity is close to 20% or less, we have to go to the private side due to the government rules.


Another way of increasing your home equity is by making significant upgrades to your property that improve its resale price.


Equity also automatically increases over time if property values rise.


Let’s take a closer look at both below.


Before You Apply


Some experts recommend having at least 15% to 20% gathered in equity in your existing property before applying for a second mortgage.  We can determine that for you, so don't guess or order an appraisal yet.


Creditors will also look at your remaining mortgage amount, which they would like to be less than 80% of your current home’s value.


And lenders always like high credit scores, so a score of 600 or higher is helpful when you’re making a secondary mortgage loan application. Much like a regular mortgage, lenders will also look at your income and the value of your primary property. They may even hire independent appraisers to determine if the value is what you’re claiming it is.


You may be thinking you’ve already proven all this to a lender before, so why prove it again? But secondary mortgage loan creditors are taking on a higher risk, so their risk will reflect in the rate you are offered especially if institutional lending is not an option.


Is a Second Mortgage the Same as Refinancing?


Sometimes inexperienced people may use the term second mortgage interchangeably with refinancing. There are both differences and similarities between the two.


Refinancing is replacing your primary mortgage with a new loan, most likely with a new lender. You can also renegotiate your interest rate, and a different loan term, and stretch out your amortization.


A similarity is being able to access some cash for certain needs, such as making home improvements, covering some family expenses, and accessing some extra funds to help manage monthly costs.


Another parallel between the two is that both must be paid off in a fixed term.


How Does a Second Mortgage Loan Work?


Secondary mortgages work a lot like how a first mortgage works with the exception that you’re putting up your existing property as collateral to gain the money.


The upside:


 A second mortgage loan can give you access to a lump sum of up to 85% of your property equity. It may seem like you’re missing out on the full sum you could secure, but depending on your equity, the amount of the second mortgage could be larger than you think.

  1. You can use the money you access for several goals we’ve talked about before.
  2. There’s a chance you can qualify for a second mortgage even if you have a credit score as low as 600. However, having a good credit score can mean a lower rate on a second mortgage.
  3. The ability to service an existing loan could also work in your favor as lenders can see you have proven your capacity to service a prior loan.


The downside:


The loan terms for second mortgages are typically shorter. Nobody wants to take on additional risk over a longer term.  Watch the renewal costs as some lenders charge large fees at renewal.

  1. Interest rates on such loans also tend to be higher because the stakes are higher for the second lender. In case of a foreclosure, the first lender gets paid before any money comes to the secondary lender. There’s a chance they may not even be able to regain the full amount they lent you.
  2. Budgeting may become a bit tricky now that you’re paying off two mortgages.
  3. If you fail to keep up with your secondary mortgage payments, lenders can seize the property you’re putting up as collateral for the new loan.
  4. You may end up with less net profit when you sell your first property. This is because you’ve already accessed part of its value for your second mortgage. And if you sell it before paying off the second mortgage in full, the lender will receive their share from the sale.
  5. Don’t forget the associated costs, such as appraisal fees, title searches, title insurance, credit checks, and other closing charges that could add up very quickly.


Home Equity Line of Credit (HELOC)


HELOCs work like a line of credit you can borrow money from whenever you want. The amount you can borrow will depend on the limit set by the creditor after getting your property appraised. You can pay the money back any time and borrow from it again. That’s why a HELOC, essentially, can become an ongoing source of credit for you.


The common feature between a HELOC and a second mortgage is that your current property will be put as collateral in both.


However, that’s about all the similarity there is. With a secondary mortgage, you can only borrow a lump sum once. And with a secondary mortgage sometimes you can’t pay it off whenever you want because it falls under stricter rules that dictate mortgage payments.  With a HELOC the interest is set based on the prime rate and is open to payout at any time and allowed to draw down whenever you wish.


Step-by-Step Path to a Secondary Mortgage


If you’ve decided to access the equity you’ve built up in your home, your next step is to find a lender.


Instead of going from one creditor to another, you can simply go to a mortgage broker that has access to multiple lenders at the same time. An experienced broker will be able to compare different lenders and interest rates for you. 


Bennett Capital experts have access to a large portfolio of second mortgage lenders to get you the best rates, and private funds for quick closings.


Once you’ve set it up with a broker, provide them with all the needed paperwork. You may have done this once before but make sure you sit down with your broker and make a full list of required documents. 


The lender will conduct a market appraisal to determine the real value of your house. This will help calculate the amount you will receive.  Private lenders will, many times, lend without an appraisal as they know the market values of our Region.


Any federally approved lender will also put you through a mortgage stress test. It determines your ability to service debt even if the rate increases beyond a certain level, we have options outside of the stress test for those clients that don't fit we can access funds as a new first or a second mortgage.


Once the lender approves your secondary mortgage, you can access your funds after paying the closing costs. Then you will receive the amount of the loan as a one-time payment.


Finding the Best Rates that Work for You


Ready to apply for that second mortgage or explore if you are eligible for a refinance?


Mortgage Architects Bennett Capital Group are experts and have years of experience in obtaining second mortgages.  We can walk you through the process to find you the best rates. Let’s talk and make it happen. 

Tracy Bennett at 4:09 PM
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Tracy Bennett
Name: Tracy Bennett
Posts: 35
Last Post: April 10, 2024

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