From your first mortgage repayment, you are building up the equity in your home. This equity can be used to borrow money when you need it. One question our mortgage broker team is often asked is whether it’s better to refinance or take out a second mortgage. Both options have their benefits, but which you choose is dependent on your circumstances. We’ll look at the differences between the two to help make that choice.
Second Mortgage vs. Refinance: What’s the difference?
Second Mortgage
A second mortgage allows you to borrow money against the equity in your home. You can either have the funds given to you in a lump sum or have the funds paid monthly through a line of credit. Second mortgages come in two types: Home Equity Loans and HELOCs.
Home equity loans allow you to borrow funds against your home’s equity. Payments are made as a lump sum that you then pay back through monthly repayments. You also get a fixed rate of interest, which means no unexpected rises in monthly repayments should interest rates go up.
A HELOC, of Home Equity Line of Credit, allows you to continuously access your funds. HELOCs tend to come with a variable rate of interest and you can access funds, or draw periods, once you have taken a HELOC out. This option lets you access funds up to your credit limit and the only monthly payments you will make are towards the interest for the first two draws. After that, you pay the balance off in monthly repayments.
Refinancing
A refinance replaces your current mortgage loan with a new one. Doing this will allow you to change lenders, get a new rate of interest, change the term of your mortgage, or opt for a different type of mortgage loan. Refinances come in two types: Cash-out and Rate and Term.
Rate and Term Refinance
With this option, you can change the setup of your loan without it affecting the principal. Taking out a longer-term will lower your monthly repayments and taking out a shorter term will let you pay the loan off faster, which saves you money on interest costs. You are also able to get a better interest rate should they drop lower than what you are paying.
Cash-out Refinance
This option lets you access the equity of your home while raising the principal. For example, your current mortgage loan is $150,000. You want to borrow $20,000 to make some home improvements. The new loan will be for $170,000 and you will get the $20,000 funding a few days after closing.
Pros and Cons
Let’s look at the pros and cons of each option.
Second mortgage pros:
You decide how you receive your funds
There are fewer closing costs
You can keep your current term and interest rate
Second mortgage cons:
You have a second lien on your property, so it’s a higher risk
Extra monthly repayments
Unable to change your mortgage terms
Refinancing pros:
You are able to change the term and rate of the loan
You only pay a single monthly repayment
Can get a lower interest rate
With just one lien on the property, it’s less of a risk
You may be able to tap into 100% of the equity in your loan
Refinancing cons:
Closing costs may be higher
there is a chance that you won’t be able to keep your interest rate
If you have questions about a second mortgage or refinancing, give our mortgage broker team a call today!