Are you thinking of buying a rental property? Real estate can be a good way to improve your income and secure your financial future. However, very few beginner real estate investors have the financial capacity to buy their first investment property with cash. When it comes to real estate investing, most people tend to rely on investment loans. If you already own a property, you might be wondering if it’s possible to get another mortgage for a second property. Yes, it’s very much possible! However, you first have to understand the basics of how to get a second mortgage.
But what is a second mortgage? Before we get into how to get a second mortgage to buy a second home, let’s first clear up any confusion around this term.
What Is a Second Mortgage?
A second mortgage is a separate long-term mortgage taken by someone who already owns a mortgaged property in order to purchase an additional property. It is a new mortgage in your name that is secured against the property being bought. Therefore, you will be paying off two mortgages simultaneously.
Given that your second mortgage is separate from your first mortgage, if you fail to repay it, the mortgage lender can only repossess the property you are buying with the second mortgage. Your existing mortgage remains unaffected. Therefore, this financing method ensures that your current home is not at direct risk.
You should not confuse a second mortgage with a second charge mortgage. A second charge mortgage, also referred to as a secured loan or homeowner loan, is a second mortgage borrowed against the equity in your existing property. In other words, a property you already own is used as collateral. Basically, there are two loans secured against the property you already own. A second charge loan can be a home equity loan or a home equity line of credit (HELOC).
You should also not confuse a second mortgage with a remortgage. With a remortgage, you are paying off your existing mortgage with a new mortgage. This is usually to take advantage of a more favorable mortgage rate.
Confusingly, a second charge mortgage and a remortgage may sometimes be referred to as a “second mortgage”.
Second Mortgage Requirements
Mortgages on a second property usually require the same approval process as a first mortgage. However, second mortgage requirements are typically stricter because paying two large debts could bring significant financial strain. If things don’t work out, the borrower has a higher chance of failing to pay.
Therefore, if you are applying for a second mortgage to buy another property, you need to convince the mortgage lender that you can pay off two mortgages concurrently. You will go through more stringent eligibility checks than for your initial mortgage.
If you are buying a rental property, keep in mind that lenders consider investment loans riskier because borrowers will not be living in those properties. This makes getting a second mortgage to buy a rental property even more difficult. Second mortgage rates also tend to be higher.
Here are the main factors that will affect your eligibility for a second mortgage:
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Credit Score
The first thing that a mortgage lender will take into account is your credit history and credit score. Lenders want to see a good credit score and a positive payment history.
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Debt-to-Income Ratio
Your income should be sufficient to cover monthly payments for both mortgages. Borrowers with a higher debt-to-income ratio are likely to struggle to repay a second mortgage. Therefore, applications by such borrowers are likely to be rejected.
Related: Debt-to-Income Ratio for a Mortgage: What Real Estate Investors Should Know
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Employment History
Borrowers with a reliable and continual source of income have a higher chance of qualifying for a second mortgage.
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Down Payment Size
Your approval for a second mortgage will also depend on the amount of deposit you can stump up. You may be required to put down a larger deposit than for your initial mortgage. For an investment property mortgage, expect a minimum down payment of 20% of the purchase price.
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Cash Reserves
Having substantial cash reserves shows the lender that you are capable of repaying the mortgage for several months. Based on this and other factors, the lender will be able to assess whether you qualify for another mortgage.
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Investment Property
Mortgage lenders will also take into account the viability of the investment property. You are likely to qualify for the mortgage if the property has a good rate of return.
How to Get a Second Mortgage: 6 Steps
If you are looking to buy another property, here are the steps to get a second mortgage:
1. Reduce your monthly expenses: To be able to save up a tangible amount of money, begin by reducing your spending. Ideally, you should begin at least three months prior to approaching a mortgage lender.
2. Review your credit score and credit history: Take steps to make any possible improvements e.g. paying down debt.
3. Gather all the necessary paperwork: Before applying for the loan, you should prepare proof that your income can cover two mortgages simultaneously. This includes documents that show your income such as bank statements, tax returns, and pay stubs.
4. Shop around: Get quotes from different mortgage lenders in the market and compare them to find the best mortgage deal. Once you find an ideal lender, get preapproved.
5. Find a profitable investment property: The best way to find rental properties for sale is to use Mashvisor real estate investment tools. Mashvisor allows you to research the market, search for properties in your market of choice, and do in-depth investment property analysis.
Related: How to Find Investment Properties for Sale: 8 Different Methods
6. Close the Deal: After finding a profitable rental property for sale, the final step is to make an offer and finalize your mortgage approval.
The Bottom Line
If you are already a homeowner and want to finance an investment property, it’s vital to know how to get a second mortgage. Basically, you will be required to prove to your mortgage lender that you can afford to pay for two mortgages simultaneously. Be sure to do your due diligence before signing on the dotted line.