Second Mortgage: Choosing the Right One

If you need money and you have accumulated equity in your home, a second mortgage may be a good choice, as long as you clearly understand the various options available. It’s important to become an educated consumer, though, and carefully study the costs versus the benefits. Otherwise, you may become as confused as Yogi Berra who said, “When you get to the fork in the road, take it.”

Home equity loan versus HELOC

There are two types of second mortgages – a home equity loan, and a home equity line of credit (HELOC). With a home equity loan, you can borrow a specific amount of money for a specific period of time with either a fixed or adjustable rate. This type of second mortgage is a good choice if you know exactly what you need it for—like a home renovation, for example.

A HELOC is a line of credit that you can borrow against when the need arises.  If you had a $50,000 HELOC, for example, and you needed to buy a new furnace, you could pay for it from the line of credit. You’d write a check and, voila, the money would be in your account. The interest rate is adjustable, and you only pay it on the amount you borrow.

Making the second mortgage choice
   
The best way to figure out which instrument works in your favor is to get a sheet of paper and write Column A (home equity loan) and Column B (HELOC). In the left column, write the list of basic features and repayment terms, get the info from your loan officer, and then compare them side by side.  The columns under “basic features” should include:

1. Annual percentage rate. Note whether it’s fixed or adjustable. If it’s the latter, write down the index used to determine the rate, how often it adjusts, and the maximum rate you can be charged.

2. Loan length. This will include the draw period and the repayment period. Some HELOCs will let you pay interest only during the draw period.

3. Fees. Since this is where second mortgages may vary most from bank to bank, it’s important to compare them side by side.  There will be fees charged for application, appraisal, and closing costs.

4. Repayment terms. Include the amounts required during the draw period, the interest-only payments, and the fully amortizing payments.

5. End of draw period. What happens then? Will the entire principal be due (called a balloon payment)? Can you renew the loan? Or will the remaining balance be rolled over into a new loan from the lender? This will play a huge role in your decision.

Once you have all this information, you can determine which type of second mortgage is right for you. It’s important to get the best deal because, as Yogi said, “A nickel ain’t worth a dime anymore.”