What is a second charge loan?
“Second-charge mortgages”, “secured loans”, “homeowner loans”… The technical language of personal and property finance can be confusing. Here’s our jargon-free guide to this type of borrowing.
To be clear from the start: these four terms all refer to the same thing:
A second-charge mortgage is the same as a second-charge loan – because a mortgage is just a type of loan.
It’s also called a “homeowner loan” because it’s a type of lending that’s only available to homeowners, who are making use of the equity they’ve built up in their home. (It doesn’t have to be a home that you live in – it could be a property that you rent out.)
This kind of borrowing is classed as a secured loan because it’s “secured” for the bank or building society against the value of your home.
It’s confusing term because it’s actually less secure for you. Unlike, say, a personal loan from a bank, which is an unsecured loan, with a second-charge mortgage your home is at risk if you can’t repay.
How much can I borrow as a second-charge loan?
You can only get a second-charge loan against the equity you have in your house – not against the total value of your house. The more equity you have, the more you’ll be able to borrow.
Equity is the amount of the home that you own outright, beyond what you owe to your bank or building society. It’s the current value of your home minus any mortgage on it.
You could have built up equity by paying off a significant amount of your mortgage over the years, or by increasing the value of the property by building an extension, or making other improvements. Or the property market could just have gone up.
When it comes to considering whether this is the right kind of loan for you, bear in mind that property values can go down, as well as up.
If it’s already a squeeze for you to make your monthly payments, you don’t want to put your home at risk by borrowing more against it.
What makes it a “second-charge” mortgage?
When you borrow money to buy a property, that’s a “first-charge mortgage” because the bank or building society who lends you the money has “first charge” – or first claim – on the property.
Which means that if your financial circumstances change and you can’t keep up with the mortgage payments, they can compel you to put the property up for sale to get their money back. And they’re the first in line to get paid.
A second-charge mortgage, or a second-charge loan, is a second, additional loan you’ve taken out, from another lender, that’s also secured against some of the value of your home.
Because it’s the second loan against the property, they have to take their place in the queue to get paid. If you get into deep water and you’re not managing to keep up with repayments and a sale is forced through, your second-charge lender only gets repaid after the first-charge lender (your original mortgage company) is paid off in full.
That’s a riskier situation for them, so they’ll commonly charge you a higher rate of interest than you’ll be paying for your original mortgage.
So why can’t I just extend my original mortgage?
It looks like a good idea: you’re usually paying a lower interest rate on your first-charge mortgage than you’ll pay on an overdraft, or the rate you could get on a personal loan, or a second-charge loan.
Extending your current mortgage is called a further advance, but…
- You won’t get your attractively-low fixed-term interest rate on the further advance you borrow: the additional amount will be at a different rate.
- Your mortgage lender may refuse because it’s not a facility they offer alongside the type of mortgage you‘ve got.
- Or they may turn you down on affordability criteria.
- Or they may not approve what you want to use the money for: first-charge lenders can be reluctant to fund a wedding, a new car, school fees, or to consolidate existing loans.
What if I remortgage instead?
Why don’t I just remortgage my property to raise extra cash to cover the total amount I need?
- If you’re currently paying a low fixed-rate there’s no guarantee you’ll get the same rate.
- And there could be hefty penalty fees for coming out of a fixed-term mortgage early: easily £2,000 if you’re in the third year of a five-year fixed £200,000 mortgage.
- Again, a lender will question what you want the additional amount of money for.
So I need to watch out for…
- The fact that this is a secured loan (against my home)
- It can make it more complicated when I move house
- It’s not a good idea to bundle unsecured loans (overdrafts or personal loans) into secured loans
- Repaying a loan over the length of a mortgage term will mean I end up paying back a lot more in interest.
But a second-charge mortgage could work for me if…
- I’ve got value in my home I want to make use of
- I want to borrow more than I could get on a personal loan
- I don’t want to alter my first-charge mortgage
- I can manage the additional repayments
- I don’t mind paying more to spread the cost out over a number of years