Second mortgage takes advantage of equity

This was originally published on Monday, March 10, 2014, in the Pacific Daily News.  Click here to subscribe to the PDN.

Question: I recently had some health issues and the medical bills are more than my insurance can cover. I want to take a second mortgage on my home to cover my medical bills. What advice can you give me?

Answer: I am sorry to hear about your health issues and hope that your health is improving. A second mortgage can be a possibility to help pay your medical bills. A second mortgage is another mortgage or lien on your home; you are using your home as collateral to receive an amount of money. If you have paid off the original mortgage and take out another loan, that is not a second mortgage and is considered a primary loan.

A second mortgage loan allows you to access the equity in your home. Equity is the difference between the balance of your loan and the value of your home. For example if your home is valued at $300,000 and your mortgage balance is $200,000, you have $100,000 in home equity. Second mortgages are usually used when you need a large sum of money. Many people use a second mortgage to pay large bills, college tuitions, or purchasing or renovating a home.

The term “second” means that it is a sub loan to your original mortgage. If you cannot pay your mortgages your home will be sold to pay off the original loan. If there is not enough money after the sale to pay your second mortgage, that lender does not get the full amount owed to them. For this reason second mortgages usually have a higher interest rate than your first mortgage.

There are two types of second mortgages:

• Home equity loan. A home equity loan is a second mortgage in which you are given a lump sum of money. You pay the loan back much like you would your first mortgage, in installments over a predetermined period of time. This type of loan is best used when you need all the money up front, usually for a home renovation or incurred medical bills. Home equity loans are usually a fixed rate.

• Home equity line of credit (HELOC) works almost like a credit card. You receive a line of credit that is based on the equity in your home and you can withdraw from it. How much or when you use the credit is up to you. Usually, the line of credit comes with a credit card or checking account, so you have access when you need it. You would use this second mortgage to pay expenses that occur over a period of time, like tuition or ongoing home repairs. HELOC’s usually have adjustable rates. You only pay for the portion of the line of credit that you use. Paying down the balance allows you to replenish your credit limit, similar to a credit card. Be careful if you are taking out a second mortgage to pay off your debts. Unless you change your spending habits, you will find yourself back in the same position and maybe losing your home. Remember that you still have to make your monthly payments on your first mortgage. In other words, you will be making two payments monthly, your original and second mortgages. Before taking out a second mortgage loan, be sure you can afford the extra payment.

Michael Camacho is president and chief executive officer of Personal Finance Center. He has more than 20 years of experience in retail banking and at financial institutions in Guam and Hawaii. If there is a topic you’d like Michael to cover, please email him at moneymattersguam@yahoo.com and read past columns at the Money Matters blog at www.moneymattersguam.wordpress.com.

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