Taking out a second charge mortgage is a huge decision, which is why we’re bringing you second mortgage pros and cons to help you make the right decision for your family.
Read these second mortgage pros and cons as a starter and consider further advice from a professional mortgage advisor who can assess your suitability and personal circumstances.
What is a second charge mortgage?
A second charge mortgage is an additional mortgage taken out on a property that already has a residential mortgage attached to it. When a second mortgage is used, the homeowner must pay two separate mortgages on the same property.
When you buy a property, you usually require a residential mortgage to fund the purchase which is then paid back in monthly instalments with interest. This first mortgage uses the property as collateral within the agreement. If the home buyer does not pay their mortgage, the lender can repossess the property and sell it to recover the debt.
Second charge mortgages do not use the property as collateral within the agreement because it is already being used as collateral with the first mortgage provider. Instead, the second mortgage uses home equity as collateral for the loan, which also determines how big the second mortgage can be.
To understand a second mortgage completely, you first need to know how home equity is calculated…
How to calculate home equity (it’s easy!)
Home equity is the value of your home you own outright and is expressed as a percentage or a financial value. To work out how much of your home you own without any debt, you must take your mortgage balance away from your current property value.
So, if your property is currently worth £200,000 and you have a £120,000 mortgage left to pay, you have £80,000 home equity. Or, you could say you have 40% home equity.
How does a second charge mortgage work?
A second charge mortgage borrows against the home equity you have built up by paying back some of your first mortgage (and possibly by rising property value). You might get approval for a second mortgage up to 80-90% of the value of your home equity as a lump sum, meaning you could get a huge loan that is not available elsewhere.
However, because home equity is used as collateral, there is a real risk of losing your home if you do not repay.
Once you have received the money, you start paying back plus interest through monthly repayments for a fixed term until the second mortgage has been paid off.
What is the point of a second mortgage?
You might be thinking why would anyone want a second mortgage. These mortgages help homeowners access large amounts of credit that can fund projects, big purchases or even be used to buy other property.
Here are the most common reasons why people choose to get a second mortgage:
- Consolidate debts with other lenders charging high interest
- Complete home renovations that increase their property value
- Buy property abroad or in the UK
- Pay for private medical bills or education
- Buy new cars or memorable holidays
- To help younger family get on the property ladder
Second mortgage pros and cons
Deciding whether to get a second mortgage is tough. There’s certainly a lot to think about. Below are some of the generic second mortgage pros and cons to help you decide. It is recommended to get professional personalised advice that will be relevant to your circumstances and situation.
What are the benefits of a second mortgage?
The pros of using a second mortgage are:
- Could grant you access to a high amount of credit.
- You can avoid fees and charges associated with alternative equity release options. For example, remortgaging could involve early repayment fees on the first mortgage, which are not applicable when using a second mortgage.
- The loan is not restricted in use and you can use it how you please (see common reasons above).
- Second mortgages are widely available in the UK.
What are the disadvantages of a second mortgage?
The disadvantages and potential pitfalls of a second mortgage are:
- Second mortgages usually have higher interest rates than other mortgages, meaning you pay more to borrow.
- It will take you longer to own the property outright by borrowing against home equity.
- They’re not guaranteed just because you have home equity. Applications are subject to rigorous assessment.
- There is a genuine chance you could lose your home if you do not repay.
- If you cannot afford your mortgages, the second mortgage lender does not have priority over money raised from the property sale. You could repay back your first mortgage but not be able to pay all the money owed on the second mortgage, leaving you with a big debt.
Is it hard to get a second charge mortgage?
Getting a second charge mortgage is usually a little more difficult than taking out a first charge mortgage because you now have bigger debts outstanding. However, this doesn’t make it impossible.
With a large amount of home equity built up and a frequent income, lenders should not view you as too big of a lending risk. Each application will be determined by personal finances and your credit score.
Is a home equity loan a second charge mortgage?
A home equity loan is a similar type of loan that uses your home equity as collateral within the loan agreement. It’s also separate from your first mortgage. Due to the similarities, some people refer to home equity loans as a type of second charge mortgage.
You may also hear people refer to home equity lines of credit (HELOC) as a type of second charge mortgage. These have some more significant differences, but you can read about HELOCs here!
Is a second mortgage worth it?
There’s no simple answer to say if a second charge mortgage is worthwhile. Your suitability and benefits of using one may be different to another person considering another mortgage against their home. It’s essential to consider the facts against personal situations and employ the help of a mortgage advisor if needed.
You can learn more about second charge mortgages and personal loans on the MoneyNerd blog!