You can define a second mortgage in a number of ways, with the two most popular being a secondary mortgage at the time of home purchase or a way to pull cash out of your existing home. Borrowers who need flexibility in the way they use their equity and make their payments like the interest only second mortgage. You may also know this loan product as a home equity line of credit, but you may not know if it’s the best option for you.
How it works
This special kind of interest only second mortgage comes in the form of a revolving line of credit. Once you close your loan, you are free to borrow against your credit limit and repay it as you would with any credit card you own. Unlike credit cards that require you to repay a portion of your balance in addition to accrued interest, lenders do not require you to make principle repayments as long as your equity line is in the draw or advance phase.
As with any home equity product, your state regulates the maximum loan to value you can borrow and the minimum amount of time it takes to close the loan, if a waiting period exists at all. The lender secures the interest only second mortgage with the available equity in your home and often gives you a favorable interest rate in return. Your line of credit has two phases: one for you to advance funds and another where you begin to repay the full principle and interest balance. They call these the draw and repayment periods, respectively.
Why people like it
The home equity lending process is not quick by any standards, so a traditional equity loan forces you to borrow as much as possible all at once, whether you need it or not. This strategy leaves you with higher monthly payments. On the other hand, using an interest only second mortgage means you can sign loan documents once and borrow exactly what you need, when you need it. Because interest only accrues on what you borrow, your payments are never higher than necessary.
Is it right for you?
A disadvantage of the interest only second mortgage is that many come with a variable interest rate. When you suspect you must advance a hefty portion of the credit line near the beginning of the term, a home equity loan with a fixed interest rate may be the better option.
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