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Understanding a Second Mortgage

This article is a continuation of Getting a Home Improvement Loan.

There are some disadvantages of getting a second mortgage; typically the payments will have a shorter term, often 15 years or less. This means that the monthly payment will be significantly higher than for a longer-term loan at the same interest rate.

Further, the interest rate itself might be so high that it doesn't make sense to go forward with the second. You'll need to check around at different banks and mortgage brokers to find the lowest rate.

Finally, in many cases lenders won't wrap the costs of the refinance into the second, but will want to be paid separately. This certainly can make this loan less attractive.

Variations on a Second Mortgage
Banks will offer a second mortgage or home-equity loan typically in two forms. In the first, you get the money all up-front. In the second you get what is essentially a revolving line-of-credit. You can borrow on your home equity up to certain limits at any time and pay the money back at any time. You are only charged for the time you actually used the money. There is also typically an annual charge for this type of account, although the bank will usually absorb any closing costs.

This is a very versatile type of financing and is excellent when used as a source of emergency money. However, only rarely is the interest rate fixed. Usually the interest rate varies depending on market conditions and tends to be significantly higher than for first mortgages.

Thus, a home equity loan makes good sense to have around for emergency money. But, if you have a specific use, such as home improvement, a different type of loan might be better.

A home-improvement loan might be nothing more than a home-equity loan by a different name. However, some lenders will offer a home improvement loan based on "take as you go." You take out the money as you make your improvements. It's a kind of construction loan. It differs from the home equity loan in that you don't pay it off as you will. You only take money out (although typically you only pay interest on the money withdrawn) and once you've taken it out fully, the loan converts to a longer term (typically 5 to 15 year) lower interest rate loan.

A home improvement loan of the above type can sometimes carry a lower interest rate than a revolving home equity loan. It sometimes can also be insured through HUD.

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