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Buying a car can be an expensive but worthwhile endeavour, particularly in Canada, where we get all sorts of weather conditions and many places are beyond the reach of public transit, walking, biking, or taxis. Although the associated costs can be high, a good vehicle can last you several years and make your life a lot easier in the process.
Luckily, there are several ways to finance the price of a car, as well as many of its future costs, like gas, insurance, repairs, and maintenance. If you’re a homeowner, one great solution that can provide you with the financing you need is a second mortgage. Keep reading to find out how you can use a second mortgage to buy a car.
What is a Second Mortgage?
While a mortgage is probably the largest debt you’ll ever take on, there are plenty of benefits to being a homeowner. For instance, you’ll build home equity whenever you complete a mortgage payment or make your property more valuable (renovations, etc.). Your equity will also go up by itself if your neighbourhood increases in real estate value.
What is Home Equity and How Can It Lead to a Second Mortgage?
Essentially, your level of home equity is the total real estate value of your property, minus the balance remaining on your primary mortgage. Once you’ve built up a certain percentage of equity (usually 20%), most mortgage lenders will allow you to borrow from it with a home equity loan or home equity line of credit (HELOC).
- Example: $600,000 value – $300,000 mortgage debt = $300,000 or 50% equity
If you haven’t fully paid off your first mortgage yet, your loan or HELOC will become a totally separate debt to keep up with. As such, borrowing from your home equity is often referred to as taking out a second mortgage. While the term “second mortgage” is more common with home equity loans due to their similarity to the traditional mortgage process, a HELOC can technically qualify as a secondary mortgage as well.
What Can You Do With a Second Mortgage?
A home equity loan will appear in your bank account as a lump sum of money that you repay in scheduled installments over a predetermined period. A home equity line of credit involves a revolving credit limit that you can dip into whenever you want and repay on a monthly basis, similar to a personal line of credit from your bank.
Most lenders allow you to borrow up to 80% of your available equity for a second mortgage. So, if you have a lot of equity in your property, you can potentially borrow a substantial amount of money to finance renovations, cover your daily expenses or, in this case, purchase the vehicle you’ve been eyeing.
Calculate Your Car Loan Payments
Pros and Cons of Using Your Second Mortgage to Buy a Car
Having a lot of home equity can help you pay off important costs. That said, a second mortgage is a major financial responsibility and should not be used irresponsibly. Take a look at the following pros and cons before you use a second mortgage to buy a car:
- Lower Interest Rates – Some car loans have high rates. Even deals that are advertised as 0% interest may only be for pricier cars. However, your second mortgage may come with a lower rate, especially if you’re a qualified borrower.
- Less Interest & Fees – If you have enough equity, you might be able to buy your car entirely in cash. Because you won’t have to deal with an expensive car financing plan, you could save a bundle on interest and fees.
- Flexible Payments – Most second mortgages can be repaid over 10 – 25 years and come with lower, more affordable payments as a result. Since a standard car loan term is 1 – 5 years maximum, your monthly payments would be higher.
- More Buying Power – Remember, a second mortgage can equal a lot more spending money than any car loan, personal loan or credit card. So, you may be able to afford a much nicer, newer car with all the best features.
- HELOC Benefits – If your second mortgage is a home equity line of credit, you’ll only be charged interest on what you borrow. Not to mention, you can make minimum or partial payments to avoid penalties.
- Risk of Losing Your House – Your second mortgage will be secured against your home equity, which acts as collateral. If you miss too many payments, your house could be foreclosed and resold so the lender can regain its losses.
- Closing Costs – When your second mortgage term ends, you could be charged hefty closing costs (often 2% – 5% of your loan amount). Although a HELOC can come with lower closing costs, you may have to pay certain fees upfront.
- Longer Terms – Despite the initial affordability of a longer repayment term and smaller payments, a 10 – 25 year second mortgage (particularly a loan) can lead to far more interest and fees than other forms of vehicle financing.
- Less Home Equity – By borrowing, you’ll be decreasing the total equity in your home. If you sell your house before paying off your second mortgage, you could end up with negative equity (a.k.a being upside down on your mortgage).
- High-Interest Rates – Second mortgage rates can sometimes be higher than other car payment methods because you’re taking more risk by having two mortgages. A variable-rate can also go up when Canada’s prime rate climbs.
- Limitations – Depending on which lender you apply with, you may have to borrow a minimum amount for your second mortgage, especially if it’s a HELOC. You may also be subject to various penalties for paying your debt off too early.
Cost Comparison – Second Mortgage vs. Car Loan
|Second Mortgage||Car Loan|
|Interest Rate||4% APR||7% APR|
How Can You Get a Second Mortgage to Buy a Car?
As mentioned, a second mortgage is a major financial responsibility. Because of that, it can be difficult to qualify if you’re a new homebuyer and you haven’t paid off much of your primary mortgage. Here are some of the factors that can affect your ability to get a second mortgage, as well as the interest rate and repayment plan you’re eligible for:
- Level of Equity – Generally, the more equity you have, the easier it is to qualify for a second mortgage with a low rate and favourable term. Most lenders will only accept your application once you have 20% equity or more.
- Credit Score – A good credit score (650 – 900) shows you’ve been responsible with your prior debt payments and are therefore a less risky borrower. The higher your score is when you apply for a second mortgage, the better the result.
- Assets/Property – Don’t forget, lenders will secure your second mortgage against your home equity to protect their investment if you default. So, if your property doesn’t have a lot of value yet, you may have trouble qualifying.
- Debts/Liabilities – If you’re financially prepared to handle a second mortgage, it won’t be as tough to qualify. On the other hand, if you have lots of unpaid debt and too much of your primary mortgage left to pay, the opposite can happen.
Can you get a second mortgage if you have bad credit?
Can I use a second mortgage to buy a car?
- Find the Right Lender – While most homeowners stick with their original lending source, you may be able to apply for a second mortgage and even receive a better rate and repayment plan through another lender.
- Have Sufficient Home Equity – Once 20% of your primary mortgage is paid, you can access up to 80% of your equity, as long as the product qualifies as your second mortgage (a standalone HELOC may only yield 65% of your equity).
- Have Strong Finances & Credit – To qualify, you must show your lender that you can afford both sets of mortgage payments. Before applying, find a steady job, save as much money as possible and pay off any outstanding debts.
- Buy Your Car & Repay Your Debt – To reduce the associated costs, the best thing you can do is use your home equity loan or HELOC to finance your car immediately, then repay your second mortgage debt as fast as you can.
What’s the difference between buying a car with a second mortgage vs. an auto loan?
- Collateral – While both alternatives can result in similar consequences if you default, a second mortgage is secured against your home equity and a car loan is secured against the vehicle you’re buying.
- Repayment Terms – The average car loan has a repayment period of 3 – 5 years. A second mortgage term can last 10 – 25 years. Although longer terms usually lead to lower rates and payments, you will pay more interest and fees.
- Interest Rates – If you’re qualified, your second mortgage rate can be lower than most car loan rates. Nevertheless, that rate could still be higher than other car financing products. Plus, you’ll have two sets of mortgage rates to deal with.
- Fees – A second mortgage may involve more administrative fees, like loan origination and documentation. A dealership will charge you for any services performed before the car is bought, like pre-delivery inspection or maintenance.
- Financing Amounts – If your property has a large percentage of home equity, you could access far more financing than any other payment method (including a car loan) would allow. Here’s an example using the same figures as above:
Is a Second Mortgage The Right Way to Buy a Car?
The answer really depends on the state of your mortgage and financial health. After all, one mortgage can already be a serious financial burden to take on, especially once you factor in your second mortgage payments, future car costs and everyday expenses.
Looking For The Right Vehicle Financing?
If you’re in the market to purchase a new car and aren’t sure about your financing options, apply with Loans Canada and we’ll help connect you with a third-party mortgage professional who can best meet your needs.
Note: Loans Canada does not arrange, underwrite or broker mortgages. We are a simple referral service.
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