A second mortgage can give you extra capital without having to replace your current mortgage. However, you may have to refinance a second mortgage to make the monthly payments more manageable, tap into more equity, or fulfill another purpose. This guide will uncover what is involved with getting a second mortgage and refinancing it if necessary.
The Basics of Second Mortgage
If you’re new to second mortgages, this brief synopsis will get you up to speed.
What is a Second Mortgage?
A second mortgage is a financial product that lets you draw equity from your home. You get to keep your current mortgage, which can be beneficial for people who have secured low interest rates. People with second mortgages do end up with two monthly payments. They still have to stay on top of their current mortgages while putting more room in their budget for an additional monthly payment.
Types of Second Mortgages
You can only choose from two types of second mortgages. Home equity loans have monthly payments that are usually fixed. You accrue interest on these loans right away, but there is a clear end date for the term.
A home equity line of credit (HELOC) is the other second mortgage you can choose. HELOCs feature variable interest rates and lower monthly payments in the beginning. You only pay interest when you borrow money against your HELOC’s limit. Minimum monthly payments are much lower, but your remaining balance gets converted into a traditional loan after the draw period concludes. The draw period can last for up to 15 years. The repayment for HELOCs usually ranges from 10-20 years after the draw period concludes.
Is It Possible to Refinance a Second Mortgage?
You can refinance a second mortgage. Mortgage lenders will be more than happy to help since refinancing results in more fees. The refinance can also help you achieve key objectives that can improve your finances.
How Refinancing a Second Mortgage Works
Refinancing a second mortgage is similar to refinancing your first mortgage. You will have to apply to refinance your loan and specify the new loan amount and terms. The main difference is that you will likely have a higher loan-to-value (LTV) ratio since you have two mortgages. Most lenders will not let you refinance if your loan-to-value ratio exceeds 80%. In other words, you need more than 20% equity in your home to get a refinance. Some lenders have more generous LTV requirements.
Benefits and Drawbacks of Second Mortgage Refinance
Every financial product has pros and cons. You won’t tap into all of the benefits or drawbacks of a single refinance. It depends on your objectives and how you structure the refinance. These are some of the details to keep in mind before refinancing a second mortgage.
Benefits
- Reduce your monthly payments by extending the loan’s duration
- More financial flexibility
- Potentially secure a lower interest rate
- Tap into more home equity with a cash-out refinance
- Pay off debt sooner by switching to a shorter-term mortgage
Drawbacks
- You can end up in debt longer
- You might be forced to use a higher interest rate if you currently have a low rate on your second mortgage
- You may stay in debt longer and end up paying more interest in the long run
- Refinancing costs will increase the loan’s balance
- You will likely incur a hard credit check
Factors to Consider when Refinancing a Second Mortgage
Make sure you look over these factors before refinancing a second mortgage.
Current Interest Rates
Interest rates are much higher than they were a few years ago. If you have a second mortgage with a low interest rate, a refinance may not be the best move. You’ll likely end up with higher monthly payments unless you stretch out the loan considerably. Even then, you’ll pay more interest in the long run.
Your Credit Score
A higher credit score will help you get better rates and terms. Mortgage lenders will also check your score to see if you qualify for a refinance. While FHA loans are available for people with bad credit, you may want to raise your score before refinancing your second mortgage. Not everyone has enough time to wait for their credit to go up, but if you can wait a few months and build credit, it may be a good idea.
Home Equity
Having more home equity will make it easier to get a refinance. Lenders will assess your likelihood to make monthly payments and stay on top of the debt. Additionally, if you want a cash-out refinance, make sure you stay within the lender’s LTV threshold.
Refinancing Costs
Refinancing costs are equal to a percentage of the loan amount. This percentage usually ranges from 2% to 5%, and it can have a significant impact on how long it takes to get out of debt. Some homeowners can pay closing costs right away, while others roll these costs into the backend of the loan.
Future Financial Plans
Every homeowner should assess how a refinance fits into their financial plans. It’s important to assess short-term and long-term objectives. While it’s easy to think of how the extra funds from a cash-out refinance can strengthen your finances, homeowners should also consider the impact of higher monthly payments or ending up with a longer term.
Second Mortgage: The Refinancing Process
If you want to refinance your second mortgage, you’ll have to go through the process outlined below.
Evaluating Your Credit and Finances
Your credit score will impact the type of loan offers you receive for a refinance. Lenders will also look at your finances to determine if you can afford the refinanced loan. You should also determine the impact of a higher monthly payment or ending up with a longer loan term.
Checking Your DTI and LTV Ratio
Almost every mortgage lender will look at your DTI and LTV ratios. Your debt-to-income ratio measures the percentage of your income that goes toward debt payments. A lower number is better, and you can reduce your DTI by making more income or paying off some of your existing debt.
The LTV ratio measures your home-secured loan balances against your home’s value. For instance, if you have a $300,000 mortgage balance and another $100,000 mortgage on a $1 million property, you have a 40% LTV ratio. Most mortgage lenders will only work with borrowers who have LTV ratios below 80%, but there are some exceptions.
Gathering Required Documents for Refinancing
Lenders will outline which documents they want during the refinancing process. They have similar requirements and usually request the following:
- Government-issued photo ID
- Social Security Number
- Proof of residence
- Proof of insurance
- Tax returns
- Bank account statements
Knowing How Much Equity You Have Left
You can only get a refinance if you have enough equity in your home. Property owners also have to consider how much equity they have left if they want to initiate cash-out refinances. Lenders have LTV limits, and you must abide by them when applying for a refinance.
Talking to Your Current Lender
Talking to your current lender can give you a better understanding of the available options. You can also discover if your current second mortgage has any prepayment penalties.
Shopping Around for Other Lenders
It’s a good idea to compare lenders so you can get the best rate and terms for your mortgage. Your current lender may not be the best choice, and it’s possible that the grass is greener on the other side.
Is Refinancing a Second Mortgage Right for You?
Refinancing a second mortgage is right for some people. It depends on your financial objectives and how a refinance aligns with your goals. Some people regret refinancing their loans because they think of the short-term impact without considering the long-term impact. Knowing why you want to refinance while considering the short-term and long-term implications can help you feel more confident with your choice.
FAQs About Refinance Second Mortgage
You can get rid of your second mortgage by paying it off in full or by refinancing it. Homeowners can also pay off the second mortgage if they choose to sell their property.
You can refinance your second mortgage with a different lender. However, you should see if your current lender has any prepayment penalties. Shopping around can help you find the best rates and terms.
You can refinance a piggyback loan. Some people switch from a variable rate to a fixed rate, while others fulfill a different objective when refinancing their piggyback loans.
