Back in the day, second mortgages made sense. They were touted as a great way to do home improvements, put in a pool, fix issues like drainage or mold, or to pay off credit cards or car loans with higher interest rates. Lenders gave us a myriad of great reasons to use our house like an ATM. And second mortgages were cheep with a capital C. Not only was the interest rate low, the payments were too. Adding to the glamor, second mortgages could be written off yearly on personal income taxes. Win-win-win, right? If the economy had cooperated, yes.
Fast forward to today. Income is harder to come by. House values have dropped. But the biggest factor, however, is how those great second mortgages of yesterday look today. Interest only payments are ending, low interest rates are set to adjust and balloon payments loom large. What to do?
The good news is that you have choices. Let’s start with the easiest scenario where you have equity in the home taking into account all the mortgages. Option one, you can refinance either just the second mortgage or wrap the first and second mortgage together in a refinance. This can be a good option because rates are still low and you can get a loan with fewer “gotchas” like balloon payments. You can get a fixed rate loan you can have for the duration. One of the issues that often arises, however, is to refinance, you not only need equity in the home, you need sufficient income and good credit. Sometimes that’s a sticking point that throws the train off the rails.
If you have equity, a second option is to sell the home. Selling the home will pay off the mortgages and you can have a fresh start with another home with different loans. In looking at this option, you have to consider when you will have sufficient income and good credit to enable you to buy a new home.
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If you don’t have equity in your home, we’re in a different ballpark. A short sale is an option if you don’t want to keep the house. The key is going to be a local knowledgeable realtor. Short sales are lengthy and complex so this is not a job for your brother-in-law or newly minted realtor friend. Also be sure to carefully investigate what it takes in your state to be free from ongoing personal liability for the second mortgage. In some states, a short sale will let you out of the house, but the second mortgage can chase you for whatever is left on the loan. Yikes, not a good result.
If you want to stay in the home, another option is to settle your second mortgage. This is really a new phenomenon. Settling second mortgages has only been possible for a short time. The criteria are strict, but when it works, it’s a beautiful thing and you can get out of the mortgage entirely for about ten cents on the dollar. Here’s how it works. If your first mortgage is “upside down,” meaning you owe more than your home is worth just considering the first mortgage, and you are at least three months behind on payments on the second mortgage and your first and second mortgages are with different banks, you’re a good candidate. The idea is that the second mortgage, although technically secured by your home, is in fact completely unsecured due to lack of equity making it much more like a credit card than a mortgage and open to negotiation.
When the second mortgage is negotiated, it is removed from the home and it showed as paid for less than owed on your credit report. You receive a 1099 for the amount forgiven. Check with your CPA to see the impact of the 1099 on your tax liability.
So that’s the good news. You’re not a slave to your second mortgage, you have options. See where you best fit in the situations described above and take action. Nothing feels as good as a well-handled second mortgage.
Emily Chase Smith is a debt solutions attorney with over fifteen years experience in financial counseling. She herself has experienced the hardship of debt and has since devoted her career to helping real families find real solutions. You can find her at secondmortgagefix.com.