How Does a Second Mortgage Work, and Should I Get One?

Learn about the options and risks of taking out a second mortgage

A family stands on the driveway in front of their home.
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A second mortgage is a loan you take out using your home as collateral when another loan is already secured by that property. Some people take out a second mortgage to make a down payment on the home. Others do so to pay off debt or to complete home improvements.

The impacts of the decision can be far-reaching, so you shouldn't take it lightly. It's key to understand how the process works, how to take out a second mortgage, and how it can affect your finances now and in the future.

Key Takeaways

  • A second mortgage is another loan you take out with your house acting as collateral when another loan is already secured by that property.
  • The mortgage is referred to as "second" because the loan will be paid after the first lender's loan if you default and your home must be sold to pay off the debt.
  • Home equity loans (HELs) provide you with a lump sum of money, while home equity lines of credit (HELOCs) allow you to draw up to a certain credit limit.
  • A cash-out refinance is also an option. This type of loan refinances your existing loan into a new one. It allows you to take the difference in cash. 

How a Second Mortgage Works 

A second mortgage is a loan that's secured by your home, just as your first mortgage is, but it's an additional loan you take out on a property that's already mortgaged. The mortgage is referred to as "second" because it's in line for payment behind the first lender. This loan will be paid second if you can't pay your mortgages, and if your home must be sold to pay off the debts.

Interest rates on second mortgages tend to be a bit higher. The lender involved in the second mortgage will receive money in the event of default only if there's any left after the first mortgage is paid off. Higher interest makes up for this risk.

Note

A second mortgage carries similar risks as a first mortgage if you fail to make payments on the loan, including the risk of foreclosure.

There are two common types of second mortgages. Home equity loans (HELs) are "closed-end" second loans. You receive the loan proceeds all at once. You can't draw from them again after you use them up. Home equity lines of credit (HELOCs) are "open-end" loans. You can draw up to certain credit limits, pay down the balance, then draw up to the limits again.

How a Home Equity Loan Works 

A HEL uses the equity in your home as collateral. Equity is the value of your home that remains after subtracting the mortgages.

You would receive the loan proceeds as a lump sum, with a loan term ranging from five to 30 years. You'll have to repay it plus interest in fixed monthly installments. There may be upfront fees, but the interest rate is fixed. It doesn't change over time. This makes for predictable monthly payments.

Be sure that you can make the monthly payments. The lender can foreclose on your home if you don't repay the HEL. A loan calculator like the one below is a good tool to use as you plan how you'll manage future HEL payments:

How a Home Equity Line of Credit Works

A HELOC is a revolving line of credit that allows you to "draw" from or borrow against your home equity.

You'll be given checks or a credit card that you can use to draw the money as you need it up to the lender-approved limit. You can do this over a "draw period" that lasts for a fixed term, often 10 years. The funds are available again in your HELOC to draw from as you make payments. A HELOC is similar to a credit card in this respect. You can keep drawing from the balance as long as the line of credit is open.

You'll enter a second fixed period of years known as the repayment period when the draw period ends. This can last for 20 years. You must pay the balance you owe in regular payments during this time. The payments will include the principal and interest.

The interest rate on a HELOC is often variable, which can result in payments that go up or down from month to month. Some HELOC lenders even require that you pay the amount you borrowed when you reach the repayment period. Your property could go into foreclosure if you don't make the payment or payments as required. Your credit score could then drop.

Note

The biggest risk of home equity loans or home equity lines of credit is that you could lose your home because you're using the equity in your home as collateral.

Options for Using a Second Mortgage

There are a few common reasons for taking out a HEL or a HELOC. Each merits careful thought and comes with lower-risk options.

Using a Second Mortgage As a Down Payment

Some people use a second mortgage to cover a down payment or even closing fees that they couldn't otherwise afford. Others take out what is known as a "piggyback" second mortgage to qualify for their main mortgage and avoid paying private mortgage insurance (PMI), even if they don't have enough cash on hand to make a down payment of 20% on their home.

Note

You might qualify for a 10% down payment, 80% of the mortgage, and 10% with a piggyback second mortgage instead of paying 10% of the home value with a down payment and 90% of the remaining value with a mortgage that requires PMI.

A second mortgage or a piggyback second mortgage both come with higher interest rates. You could also end up underwater on your loan. Making a down payment of 20% will allow you to avoid paying PMI and qualify for lower interest rates on the first mortgage. You can start your home loan on better financial footing, and can avoid the chance that you might lose your home.

Taking Out a Second Mortgage to Pay Off Debt

Debt consolidation is a common strategy that involves combining multiple debts into one, often a lower-interest loan. People who have built up enough equity in their homes sometimes take out a second mortgage, so they use their home equity to pay off high-interest debt, but that doesn't pay off the first debt. Some people consolidate their debts, only to find themselves in debt again within a short amount of time.

Taking out a second mortgage to pay off debts puts your home at risk because you're moving unsecured debt to your home. The lender could foreclose on your property. You could lose it if you couldn't make your payments.

Taking out an extra loan against your home could be a major risk if your home's value declines to the point that it's worth less than the mortgage. You would be underwater on your mortgage at this point. You might be more likely to default.

It's better not to tie extra debt to your home if you can avoid it. Speak with a debt settlement company instead to resolve the debt. You might consult a credit counselor to address the problems that caused you to go into debt in the first place. Think about taking out a loan from a bank instead if you decide to consolidate your debt.

Using a Home Equity Loan to Get Cash

Some homeowners use a home equity loan to trade the equity that's built up in their home for cash to pay for home improvements or other expenses. You may be able to get between 90% to 95% of the cash value of your equity by putting up your home as collateral for the second mortgage. But now you'll have two mortgage payments. You'll create the risk of losing your home if you fail to make those payments.

A cash-out refinance might be an option. This refinances your existing loan into a new loan. It allows you to receive the difference in cash. The terms, interest rates, and payment plan for the consolidated loan will not be the same as the first loan. But you won't have two loans to contend with. A cash-out refinance can be a good option if you can secure a lower interest rate than you could on a second mortgage.

Taking Out a Second Mortgage

The process for taking out a second mortgage is similar to how you got your first mortgage. You'll have to provide proof of your employment, income, credit score, and other debts. You'll also need enough equity in your home. You'll have to have your home appraised to get an estimate of its current value so the lender can assess the equity. The loan amount and interest will reflect all these factors.

You can begin the process by going to your bank or credit union and applying for a loan with them. Ask whether the lender charges application, origination, or appraisal fees. Not all lenders do. Be prepared for the interest rate on a second mortgage to be a bit higher than on your first mortgage, but it will often still be lower than with unsecured loans, such as personal loans or credit cards.

Note

You don't have to get your second mortgage from the same lender where you received your first mortgage.

Adding a Second Mortgage to Your Debt Payment Plan

Include your second mortgage in your debt payment plan when you take one out. The interest rate is higher, so it shouldn't be treated the same as your primary mortgage. Work to pay off the debt from a second mortgage as quickly as you can to avoid getting mired in more debt. Think about whether you can truly afford the cost of a second mortgage.

Note

The costs of a second mortgage depend on many factors, such as your home price, your down payment, your loan term, property taxes, homeowners insurance, and the interest rate on the loan. This rate is highly dependent on your credit score.

You'll often find that you're better off saving up and paying cash for most of your needs or working with debt professionals to clear up your debt without the same risks as using a second mortgage.

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Sources
The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy.
  1. Consumer Financial Protection Bureau. "What Is a Second Mortgage Loan or 'Junior-Lien'?"

  2. Consumer Financial Protection Bureau. "What Is a Home Equity Loan?"

  3. U.S. Bank. "Second Mortgage vs. Home Equity Loan."

  4. Consumer Financial Protection Bureau. "My Lender Offered Me a Home Equity Line of Credit (HELOC). What Is a HELOC?"

  5. FDIC. "Down Payment and Closing Cost Assistance." Page 1.

  6. Consumer Financial Protection Bureau. "What Is a 'Piggyback' Second Mortgage?"

  7. Indiana University School of Public and Environmental Affairs. "Bailing out Underwater Mortgages." Page 1.

  8. Federal Trade Commission. "Coping With Debt."

  9. Discover Bank. "Home Equity Loan vs. Cash-Out Refinance."

  10. Discover Bank. "Common FAQs and Requirements for a Second Mortgage."

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