Home Equity Loan vs. Second Mortgage
With interest rates at historical lows and real estate values at record highs, many people are looking at ways to take advantage of the situation. The difference between what you owe on your home and the amount it would be worth if you sold it is your equity. This equity amount will determine how much you can borrow on either a home equity loan or a second mortgage.
Before you take out either a home equity loan or a second mortgage, take a look at all your options. Sometimes it makes more sense to refinance rather than take out a second loan. Second loans, whether it’s an equity loan or a second mortgage, are paid off after the first or primary mortgage. That makes them inherently more risky. Lenders will mark up interest rates to compensate for the increased risk. So first mortgages will usually have lower interest rates.
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If your primary mortgage has a very low rate, you might not want to refinance. Also, if you don’t need the extra money for a long time, the higher interest rates on a home equity loan or second mortgage could be offset by the shorter term.
Home equity loans and second mortgages are very similar. They both use your home as collateral on the loan. That means that if you can’t make the payments you many lose your home.
Second mortgages are always for a fixed term but home equity loans can be more flexible. A home equity line of credit allows you to borrow money as you need it. When you sign up for a home equity line of credit, you are approved for borrowing a certain amount. You can draw on that amount over time as you need it. You write out checks on the account, just as if it were a checking account.
A home equity line of credit can have fees associated with it that you don’t find in a second mortgage. Annual maintenance fees or membership fees are sometimes charged on home equity lines of credit. Also, there can be a transaction fee charged every time you use the credit line.
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Another difference between a home equity line of credit and a second mortgage is the way the APR or annual percentage rate is calculated. The APR on a second mortgage will include points and other finance charges. The APR on a home equity credit line does not include points or other charges. When you compare the costs be sure to find out the total cost with all the fees included.
