Second Mortgages: Turning Home Equity Into Cash

With a second mortgage, you can borrow up to 80% of your home's value, minus what you currently owe on it. Second mortgages can improve cash flow, but they can also cost you your house.

A second mortgage is a loan taken out on a property that already has a mortgage. A second mortgage can be a handy tool for turning equity into cash, but it also means repaying two loans simultaneously — and potentially losing your house if you can’t.

One way of mitigating the risks involved with second mortgage is by learning as much as you can about them.

How does a second mortgage work?

To learn how a second mortgage works, it helps to know how much money you might have access to. That number is determined by how much home equity you have in your home. The most you can unlock is 80% of your property’s value, minus what you owe on your current mortgage.

For example, let’s say your home has a current market value of $500,000. With no outstanding mortgage, you’d be able to borrow up to $400,000 as a second mortgage ($500,000 x 0.8). But if you still owe $300,000 on your first mortgage, your second mortgage can’t exceed $100,000 ($400,000 – $300,000).

Where to get second mortgages

There are two primary forms of second mortgages: home equity lines of credit (HELOCs) and home equity loans. Most major financial institutions offer HELOCs, but if you’re interested in a second mortgage, you’ll likely have to go to a private lender or consult with a mortgage broker.

Fees and interest rates on second mortgages

When getting a second mortgage, you’re adding another lender to the title of the property. That means there’ll be fees to consider, including:

Administration fees.
Appraisal fees.
Title search fees.
Title insurance fees.
Legal fees.

In addition, the interest rate charged will likely be higher than on your first mortgage. The additional mortgage lender takes the second position on the property’s title, so if you default and your home is sold, the original lender gets paid first. The second lender takes on additional risk, so they charge you a premium.

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How to qualify

Since a second mortgage is another loan, you’ll need to qualify before getting approved. Lenders will consider the following information:

Equity. You’ll need to provide your primary mortgage details so the second mortgage lender can see how much equity you have.
Income verification. A letter of employment or recent pay stubs can show lenders that you have steady employment and can afford a second mortgage.
Credit score. Lenders will check your credit score during the qualification process. Generally, the higher your credit score, the better the loan terms you’ll be offered.
Property value. You’ll need a home appraisal to determine the current property value.

Pros and cons of second mortgages

As with any other credit product, you need to consider the advantages and disadvantages of a second mortgage before applying for one.

Pros:

Some lenders may allow you to qualify even if you have bad credit.
The equity unlocked can be used for anything, including debt repayment, home renovations or unexpected expenses.
You can access up to 80% of your home’s appraised value.

Cons:

You could pay a significantly higher interest rate compared to your primary mortgage.
Due to the fees involved, they can be more expensive than other options.
Owing two lenders means you’ll be closer to default if your financial situation worsens.

Alternatives to a second mortgage

If you’re in need of cash and can afford the added costs, a second mortgage could be the right move. But there are several other credit products that may be worth considering.

Collateral mortgage

A collateral mortgage can be thought of as a typical mortgage with an additional HELOC amount already approved. As your home equity increases, the amount you’re able to borrow does too.

A collateral mortgage, however, has to be chosen when you first apply for your mortgage. It’s not a mid-term option, like taking out a HELOC.

Blended mortgage

A blended mortgage is a popular option for homeowners when interest rates fall below the rate they’re currently paying. By getting a blended mortgage, you typically get a lower interest rate and have the opportunity to access the equity in your home — two options that can improve your cash flow situation.

The rate you wind up with should fall between your existing mortgage rate and the current rates being offered by your lender, hence the term “blended”. Since you’re technically keeping your mortgage, you can avoid prepayment fees.

Personal loans and unsecured lines of credit

Under some circumstances, an unsecured form of credit could be a better fit for your short-term financing needs.

If a second mortgage from a private lender is going to cost you 12% interest over the next 12 months, for example, it’s not a bad idea to explore your personal loan or line of credit options and see if there’s a cheaper way to borrow.

When comparing credit products to second mortgages, ensure you do so strategically. Choose the product that provides the lowest overall cost and a repayment schedule you’re confident you can stick to.

Getting a mortgage for a second home

Getting a mortgage on a property that isn’t your primary residence is an entirely different process from getting a second mortgage. With a second mortgage, you have two loans on the same house. When buying a second home, each one has its own mortgage.

If you buy a second property, you’ll have to apply for a new mortgage — one that only applies to the new property. You’ll have to qualify, pass the mortgage stress test and, crucially, provide a down payment of at least 20%.

Your first home can play a factor in your new mortgage by increasing your assets, impacting your debt service ratios and maybe even providing some of the funds for your down payment. But getting a new mortgage doesn’t technically mean you have a “second mortgage.” It just means you now have two homes, each with its own mortgage.

A second mortgage is only a good idea if you’re confident you can pay it off without damaging your finances. Second mortgages can come with high interest rates and, depending on the lender, short, restrictive repayment schedules that can be difficult to maintain — especially if you’re already short on cash.

Yes. A home equity loan is a loan secured by an already mortgaged property, so a home equity loan is really just a type of second mortgage. The other main type is a HELOC.

About the Authors

Clay Jarvis

Clay Jarvis is NerdWallet’s mortgage and real estate expert in Canada. Thus far, his entire professional writing career has revolved around real estate. Prior to joining NerdWallet, he was the…

Barry Choi

Barry Choi is a freelance personal finance and travel expert. His website moneywehave.com is one of Canada's most trusted sites when it comes to all things related to money and…