Advantages & Disadvantages of Second Trust Mortgages

Tapping into your equity with a second mortgage isn't always wise.

Tapping into your equity with a second mortgage isn't always wise.

Depending on the laws and customs of your state, a second mortgage may technically be a second trust deed. While the legal details of the two types of loans are slightly different, the business points are the same. In either case, they're loans that are secured by the equity in your house that isn't already taken up to secure your mortgage.

Potential Tax Deductions

The Internal Revenue Service doesn't care whether your mortgage is your first, second or fifth. If it meets their rules, you can write off the interest with your itemized deductions. You can write off the interest on up to $1,000,000 of home purchase debt on up to two homes and up to an additional $100,000 of home equity debt also spread over one or two homes. While home equity debt applies to anything, home purchase debt isn't just money you use to buy your house. It also includes money that you borrow to fix, improve or change your house.

Untouched First Mortgage

When you want to pull money out of your house, you usually have two options. You can do a cash-out refinance or take out a second mortgage. Taking out a second lets you leave your first mortgage in place. This has two benefits. First, if you already have a good mortgage, you can keep taking advantage of its terms. Second, the longer you have your mortgage, the less interest and the more principal you pay. Leaving your first mortgage in place means that you're putting more money into building equity, helping to balance out the equity you're pulling out with your second mortgage or trust deed.

Interest Rates and Payments

The interest rates on a second mortgage can be both an advantage and a disadvantage. When you compare a second to a first, the rate is usually higher since the lender is taking more risk. However, the rate on a second mortgage is usually better than the rate you'd get on a personal loan or a credit card. Furthermore, if you can deduct your second mortgage interest, the rate may be even better.

Potential for Irresponsible Borrowing

A second mortgage can be a useful financial tool, or it can be a burden. Taking out a second mortgage to pay off credit cards, for example, could save you a lot of money. On the other hand, it could also put you in a tough financial spot if your credit card balances go up and you have pay them as well as your second mortgage. Since second mortgages can have very long terms, you could also end up paying off a five-year personal loan over a 20 or 30 year period if you transfer its balance to your second mortgage. In the long run, this will cost you more.

Foreclosure Risk

When you take out a second mortgage, you're putting your house at risk. If you don't pay it, you can lose your house to foreclosure, just like if you don't pay your first loan. A foreclosure on your first loan could have repercussions on your second loan as well. If you lose your house to your first lender and there's nothing left for the second mortgage holder, it could still come after you for the money even if your first loan gets forgiven.

About the Author

Steve Lander has been a writer since 1996, with experience in the fields of financial services, real estate and technology. His work has appeared in trade publications such as the "Minnesota Real Estate Journal" and "Minnesota Multi-Housing Association Advocate." Lander holds a Bachelor of Arts in political science from Columbia University.

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