There are many uses for second mortgages. But a major practical role of theirs has to do with down payments. Second mortgages have been taken out with first mortgages to cover a portion or all of the down payment.
What’s more, homebuyers may be eligible for DPA second mortgages. These mortgages are offered as part of a down payment assistance program, covering down payments and closing costs as well.
Let’s look into how second mortgages can help you with your down payment. [sc_content_link label=”Learn more here.”]
Second Mortgages, Piggybacking and PMI
Homebuyers who can’t afford a 20% down payment but want to avoid paying private mortgage insurance turn to piggybacking. You get a home equity loan or a home equity line of credit together with your first-priority mortgage to cover the purchase price, including the down payment.
For example, you take out a loan for 80% of the purchase price, get a second mortgage for the 10%, and pay the remaining 10% in cash, out-of-pocket. You can also do an 80%/20% whereby 80% is covered by the first-lien mortgage and 20% is for the down payment.
Either structure takes care of the 80% loan-to-value ratio, a threshold among conventional loans so one can avoid the PMI and of course, the 20% down payment. Another reason is to avoid exceeding the conforming loan limit and the resulting higher rates.
This practice of piggybacking is more widespread before the housing crisis. Rates on piggyback second mortgages may be lower than the first mortgages because their amounts are lower. But this could change – second mortgage rates being higher – if they are taken out after the first mortgage closed.
These HELOCs or HELs are often called a standalone second mortgage to tap home equity stored after a few years and convert it to a line of credit or a lump sum disbursed at closing.
Other than being piggyback and standalone, there are DPA second mortgages.
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Down Payment Assistance and Second Mortgages
State housing finance agencies are tasked to promote affordable housing especially among first-time homebuyers, veterans, or any other person who can’t fully pay for their down payments and/or closing costs. These state agencies offer down payment assistance in the form of loans like second mortgages.
In the context of DPA, they are typically classified as:
- Amortizing DPA second mortgages. Structured like traditional mortgages, these loans are charged with full interest and must be repaid over a certain period. Rates on such mortgages can match those of the first mortgages or are deeply subsidized, e.g. zero.
- DPA soft second mortgages. These loans may have any or all of these features: (i) no monthly payments, (ii) zero interest rates, and/or (iii) forgivable debt. Unlike amortizing DPA 2nd mortgages, payments on soft seconds are deferred until the home is sold, or the mortgage is refinanced. In some programs, the second mortgage debt will be forgiven after a certain period has elapsed.
Because second mortgages are administered by state-wide HFAs, they understandably have varying eligibility requirements and terms.
For example, Pennsylvania Housing Finance Agency’s second mortgages provide qualified borrowers with up to 4% of the purchase price or $6,000, whichever is lesser. The loans are amortizing with 10 years to pay at 0% interest.
A DPA in California offers a deferred second mortgage of up to 3.5% of the home’s purchase price or its appraised value.
Some HFA DPA programs may require that second mortgages be paired with HFA-approved first mortgages only and that HFA-approved lenders can solely make these products.
Wait a Second
They got their name from being second in payment priority to first-lien mortgages. However they are structured, second mortgages are flexible products to cover down payments.
And if you are struggling with your down payment, second mortgages can help clear the path to your first home.
Let’s help you find a DPA program near you.