The biggest perk of being a homeowner is you can build home equity over the period of repayment. As you pay the mortgage your equity in a home increases simultaneously. Additionally, a Home Equity Line Of Credit (HELOC) is a financial product enabling homeowners to borrow a chunk of that equity against their homes. If you are someone who is thinking of using HELOC apart from securing a second mortgage loan; read our blog about why avoid using your home equity line of credit. And make a decision later.
What Is Home Equity?
Home equity or also known as real property value is the unencumbered interest of a property. It is the difference between your home’s worth and the outstanding balance of all credits on the property.
Example – Your home’s worth is $300,000 and you’ve paid $25,000 of the mortgage. Additionally, you’ve put down 20% ($60,000) which signifies you have $85000 equity in the home.
What Is A Home Equity Line Of Credit?
A HELOC (Home Equity Line Of Credit) is similar to a credit card. Although the limit is purely based on the equity you have in your home, most banks offer about 80% of your equity. HELOCs often have a lower interest rate in comparison to other loans and the interest may be tax-deductible.
As HELOCs have a lot to offer, using them for leisure and entertainment can be an indicator that you are misusing the allowance. Even if the HELOC is cheaper than a credit card, it is still a debt that must be avoided for funding a luxurious lifestyle. Given are some of the activities you must avoid while using your home equity line of credit.
Paying For A Vacation
Adding to other activities, spending your home equity line of credit on a vacation can be a bad decision. HELOCs are a source of cheaper debt in comparison to other kinds of credits, people use them for sponsoring trips. Also, the HELOC offers interest rates below 6% whereas credit cards may be on the steeper end offering 14%-25% interest rates. When you borrow from the home equity you are only aggravating the issue, as you may be risking your home while using HELOCs.
Buying A Car
There was a time where HELOC rates were reasonably cheaper than auto loans. Eventually, the cheaper rates enticed people, enabling them to use HELOCs although it’s not the case anymore. Furthermore, buying a vehicle or car, in this case, is a bad idea for many reasons. When you take an auto loan with a HELOC your loan is secured by the car you purchased. If your financial condition worsens you may end up losing the car. Additionally, if you’re unable to make repayments you may also lose your house. Adding to the rest, an automobile is a depreciating asset.
Paying Off Credit Card Debt
When calculating your repayments paying off expensive debt with cheaper debt may make a lot of sense. However, in some cases, this debt transfer can skip the underlying issue, which is a lack/shortage of income or inadequacy to control spending. It is vital to understand what led you to create credit card debt in the first place. You can only pay a credit card debt if you have the discipline to pay the principal of the loan initially.
Paying For College Education
The primary reason for people using HELOCs as mentioned above is because it’s cheaper than other credits. This makes it a big reason for using it for your child’s college education, however, using HELOCs may put your house at risk. You may have to think twice before using the home equity line of credit as it may risk losing your house. Additionally, if the amount is significant and you’re unable to pay the principal within 10 years. You may carry the added burden of mortgage debt into retirement.
Investing In Real Estate
Should I invest in real estate with HELOCs? The ultimate answer to this question is that it’s a risky proposition. There are many uncertain circumstances that may affect this decision. Reasons like sudden renovation, or a downturn in the real estate market, etc. can be a pitfall. Due to the same reason, many people have been trapped in debt, which makes repaying a tough task.
Bottom Line
There are many other ways to fund your requisites apart from HELOCs may it be for education, getting a car, or planning a trip. It is best to avoid using the home equity line of credit and use your savings or other available credit options. Furthermore, if you want to sell your house fast you can get in touch with Elite Properties. We are a cash buying company offering fast closings and no-obligation offers. Call us today at 718-977-5462 to know more.
Many homeowners opt for a second mortgage which is an additional loan against your home. If planned well a second mortgage can be your savior in bad times or a trap of financial edge. There are many things to keep in mind while applying for a second mortgage. We will provide you with a complete guide about the second mortgage, and how it works. Advantages, disadvantages, and everything you would want to know.
What Is a Second Mortgage Loan?
A second mortgage means taking a loan against the equity of your home, which means the equity acts as collateral. This loan is also known as a ‘second mortgage’ as you already have a prevailing loan on your property. The amount that a lender offers for a second mortgage depends on the built equity of your home. The repayment of a second mortgage will only proceed only when you pay off the primary mortgage. Usually, the interest rates for the second mortgage are higher and the amount borrowed is lower than of the primary mortgage.
How Does A Second Mortgage Work?
A second mortgage is provided by lenders by employing your equity as security. In such an instance if you have a mortgage on your property or not, you can still secure a second loan by redeeming the equity that was heaping over the years.
The amount given for the second mortgage is calculated by estimating the current market value of your home and subtracting the installments paid for the first loan. For example: If your home costs 300,000 dollars and the remaining debt from the first mortgage is 210,000 dollars then you have collected 900,000 dollars of equity. Here, the lenders may lend you around 60% to 80% with respect to your equity.
Types of Second Mortgages
There are three types of mortgages that fall under the broad term of the second mortgage. The names of the mortgages are –
Standard Home Equity Loans
A home equity loan is the traditional category of loan where a fixed amount is given to you for a fixed term. The amount remunerated is spread over the span of 5 – 15 years. Once the loan closes you receive all your money in a lump sum amount.
Home Equity Line Of Credit (HELOC)
A Home Equity Line Of Credit gives you the liberty to draw money whenever you need it until the maximum amount of credit line. HELOCs also have a draw period which is usually 10 years. During this period you can utilize the line of credit while you only pay the interest on your principal. Post the draw period your payments (including interest and principal) are remunerated over the remaining loan tenure.
Piggyback Loans
A piggyback loan is a category of the second mortgage that acts as an additional loan to your primary mortgage. Instead of trading your home equity for borrowing money, a piggyback loan becomes your supplementary loan. Many homeowners choose to piggyback loans to elude the hassles of PMIs.
A piggyback loan means using two loans to finance the purchasing of a single property with less than 20% equity. The loan has a ratio of 80/10/10 meaning: you’ll be lent 80% of the amount from the lender, 10% will be provided by the piggyback mortgage and the remaining 10% will be the down payment that you will provide.
Tips for Opting For a Second Mortgage
It is advisable to always make a full-fledged plan before you proceed to apply for a second mortgage. We would like to share some tips on how you can get yourself prepared before applying for a second mortgage.
Craft a Financial Strategy
Ask questions to yourself like how will you utilize the money from the second mortgage? What will your repayment structure look like? Will you have enough money as a backup for emergencies? Asking such questions will help you plan a better framework for repaying and employing your second mortgage.
Understand your credit score
Extracting your credit score will give you a better understanding and provide you with options to choose a suitable loan. Your credit scores affect the amount you will be lent hence, it is also important to keep it on the positive side.
Organize documents
There is a complete list of documents that you need to provide while applying for the second mortgage. Although you might be asked for additional documents depending on what kind of loan you apply for, there are some necessary ones listed below –
- W2 earnings statements or 1099 income statements for the last two years
- Federal tax returns for the last two years
- Bank statements for the last few months
- Recent paycheck stubs
- Proof of other income, such as tips, Social Security payments, investment income, etc.
Ways to Use a Second Mortgage
A second mortgage equally stands to be a big amount to spend. You’ll have to put your funds at appropriate places where you can increase your property’s worth. There are some common ways to do so like –
Home Enhancements
These stand to be the most common choices amongst homeowners as they directly improvise the sale of your home. When your home looks good, it bids for a higher price which means profits and easy repayments.
Debt Consolidation
A second mortgage has lower rates but, it might significantly change your situation from losing a home to a better repayment structure.
Education and Healthcare
The second mortgage can provide you with a substantial amount for funding your child’s educational needs like college or tuition fees.
Emergencies are very unfortunate, you never know what surprise life might have for you. It is important to have a healthcare plan with lower interests on your side.
Advantages and Disadvantages of a Second Mortgage
Each thing has its pros and cons similarly, it is the case with second mortgages as well. We will state some advantages and disadvantages of having a second mortgage.
Advantages of the second mortgage
- Large loan amounts become accessible
- You get lower interest rates
- Tax benefits
Disadvantages of the second mortgage
- Reduces your home equity
- Limits the ability to borrow
- Additional closing costs and monthly payment
- Higher interest rates
Bottom line
By now you might have understood the complete process, pros, cons, and a lot about the second mortgage. Although second mortgages are extremely convenient it is also important to determine if they fit your needs.
If you need any assistance with respect to real estate, you want to sell your house fast or have any other requests you can contact us on ‘Elite Properties’ and we’ll provide complete assistance to your queries.