Disadvantages of Second Mortgages

Optimists love to look on the bright side of things. But when it comes to financial products like second mortgages, they also need to look at the not-so-bright side. Second mortgages have many advantages, but they have weighty disadvantages, too. In any financial transaction, it's important to be aware of all your potential risks.

Second mortgage defined

In many ways, a second mortgage is a duplicate of your first. It's a loan secured against your house, and the interest you pay is tax deductible. The difference occurs in the event that you default on your loan. The lender who holds the primary mortgage is the first to receive any funds recovered from the defaulted loan. The second mortgage lender is next in line. Because second mortgages are a slightly riskier proposition for lenders, they're generally tagged with higher interest rates.

Versatility galore

If you've built up quite a bit of equity in your home, a second mortgage allows you to tap large sums of money at one time. How you use the funds is entirely your decision. Typical uses include home improvements, paying for college, debt consolidation, and even paying for private mortgage insurance.

A walk on the dark side

All the plusses of having a loan secured against your house can turn into a huge minus if you fail to make your mortgage payment. A bank could foreclose on your home if you default on this loan and your primary mortgage.

That's the worst-case scenario, but there are even more potential disadvantages. Late payments can include hefty fees and serious blights to your credit report. And while second mortgage interest rates generally beat the rates of credit cards, they're generally higher than first mortgage rates.

There's plenty to celebrate about second mortgages but, like seconds at the dinner table, they can also get you sick to your stomach if you can't handle the extra load. Whether it's digesting a meal or digesting a mortgage loan, make sure that you have the stomach for it.