Higher Rates, Shorter Terms

To lenders, second mortgages are riskier than first mortgages. In the event of default and foreclosure, the second mortgage lender gets paid off only after the first mortgage lender is paid in full. Because of this additional risk, lenders usually charge a higher rate for second mortgages than for first mortgages.

Most first mortgages have terms of 15, 25, or 30 years. Second mortgages typically have terms ranging from 5 to 15 years.

Combined Loan-to-Value (CLTV) Ratio

If you have a $125,000 home and a $100,000 first mortgage, the loan-to-value ratio for that mortgage is 80 percent ($100,000 -t $125,000).

If you also have a $10,000 second mortgage in addition to your first mortgage, your combined LTV ratio is 88 percent ([$10,000 + $100,000] t- $125,000). Your combined LTV (CLTV) ratio is the sum of all your mortgages divided by the value of your home.

When making a second mortgage loan, lenders restrict your CLTV ratio. Depending on loan type, occupancy, and purpose, the maximum CLTV ranges from 70 to 90 percent. The rate for this type of second mortgage is typically 2 percent to 3 percent higher than the rate for a 15-year first mortgage. If your CLTV ratio is more than 80 percent, you should expect the rate for your second mortgage to be 3 percent to 6 percent higher than a 15-year first mortgage.

Balloon versus Fully Amortizing Second Mortgages

With a traditional first mortgage, a portion of each payment that you make reduces your loan balance, and by the time you reach your last monthly payment, you have fully paid off your loan. This is called a fully amortizing loan. Some second mortgages are also fully amortizing.

Others, however, come due with a large portion of their principal balance still unpaid. These loans are called balloon loans, and the final principal payment is called a balloon payment.

Example:

• $25,000 second mortgage at fO-percent interest

• 7-year term with 30-year amortization schedule

• $219.40 monthly principal and interest payment

• $23,881 balloon payment due at the end of seven years

In the previous example, you would have paid off only 4 percent of your $25,000 loan by the time it comes due in seven years. The advantage of a balloon loan is a lower monthly payment. The monthly payment of a fully amortizing $25,000 seven-year loan at fO percent would be $415.03 versus $2f9.40 for the balloon loan.