The difference between a first and second mortgage is simple. A first mortgage is taken out for the buy of the home, while a second mortgage is taken out on any residual value between the outstanding mortgage balance and the value of the house.
Normally, a homeowner will get a second mortgage for home improvements, but there other reasons to take out a second mortgage, and one of the most increasingly well loved reasons is to pay down high interest credit cards.
If you are improving your home to such an extent that it will substantially increase the value of the home, a second mortgage is probably a worthwhile investment. Certain home improvements are said to be especially helpful in increasing the value of a home, such as an additional bedroom or modernized kitchen.
Some home improvements, but, are nothing more than luxuries and will not affect the future value. An in ground pool is an example that is frequently used, since there are many buyers (with young children, for instance) who would not care to have one.
Many credit advisors recommend using a second mortgage to those consumers who are paying high interest rates on consumer debt. If you are paying credit card rates of 10 to 20%, which are not unusual, you will save a lot if your second mortgage is in the 5 to 9% range.
Make sure, but, that the cost of the new debt is balanced by the benefit received. Either the value of the home should improve to an extent that makes the loan cost worthwhile, or the savings from your credit cards should balance the cost of the loan.
If a homeowner defaults on his home, the first mortgage will be paid off from the proceeds of the home. The second mortgage is not paid unless there are funds still left after the first mortgage is settled.
It is for this reason that second mortgages have higher interest rates than first mortgages. One of the factors determining interest rates is risk, and since the bank granting the second mortgage has a higher risk because the mortgage will not be paid off unless the first mortgage is paid off, this is reflected in the rate.
There are closing costs with second mortgages just as there are with first mortgages. Make sure you are fully aware of all of the closing costs associated with the loan, so that you can be sure the total cost of the loan balances the increased value of the home or the savings on the credit cards!
Rates on second mortgages can vary greatly, so it really pays to shop around, not only for the base rate, but also for the lowest package of closing costs. Since the loan amount of a second mortgage is typically not as high as a first mortgage, small differences in rates and costs can have a proportionately higher effect on the cost of the loan.
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