Let me share a cautionary tale about taking out a second mortgage. I got into a lot of financial trouble in my early twenties. Even though I bought my first home on my own at 23, my finances were a mess and I was stuck in a big-time credit card debt trap. My only saviour was the small bit of equity that built up in my home (I had put 10 percent down on my purchase).
I knew the bank wouldn’t lend me any more money. I needed 25 percent equity for the bank to even consider a home equity line of credit, and my less than stellar credit score didn’t help.
Alternative lenders such as Home Trust and Wells Fargo were offering consolidation loans at 8 percent interest and their lending criteria was much looser – I only needed 10-15 percent equity in my home to qualify. So I added up all of my outstanding high interest rate debt and placed a second mortgage on my home to consolidate those loans into one low(er) interest rate and payment.
Taking Out A Second Mortgage
A second mortgage is just like it sounds – a loan against a property that already has an existing mortgage in place. Interest rates are much higher with a second mortgage because of the risk involved in being second in line. The first mortgage gets priority if a homeowner defaults on his or her payments.
Someone with a good credit score and a lot of equity built up in their house could set-up a home equity line of credit with little trouble and access the funds for a renovation, vacation, or to consolidate other debts.
In my case I had neither good credit nor much equity in my home and so I had to resort to an alternative lender to set up a second mortgage and bail me out of my credit card trap. I paid a little more than $800 per month over a three-year term.
In addition to trust companies, private lenders will also finance second mortgages for borrowers who are turned down by banks and other lending institutions.
The pitfall with any consolidation loan or second mortgage is that the borrower uses the loan to pay off his or her credit cards and then proceeds to rack up the cards again and borrow even more.
Thankfully that didn’t happen with my story, as I managed to dig my way out of that $30,000 mistake and get back on my feet. The monthly payments forced more financial discipline on my part and the sheer embarrassment of having resorted to an alternative lender and second mortgage was enough to scare me straight.
As with any loan, you’ll have to show proof of steady and dependable income to qualify. The higher your credit score, the better your chances at a decent interest rate. And finally, the more equity you have in your home, the better chance of qualifying for a second mortgage.
We all make dumb financial decisions at some point in our lives. In my case, poor spending habits in my early twenties led to some big time money problems in the few years before I turned 30. I got my act together and used a second mortgage to bail myself out of a bad situation. It’s not a great solution for everyone, but I’d say I’ve turned over a new leaf, and then some.
A second mortgage can be a good alternative for those with poor credit and not enough home equity to qualify for a traditional home equity line of credit. Just be sure not to fall back into the debt cycle and dig yourself into an even bigger hole.
Make a plan to pay off the second mortgage as quickly as your budget allows, and put those credit cards on ice.
Many people approaching retirement may be delaying those plans due to their debt loads.
Boomers are not known for thrifty living. They have earned the title of the “most indebted generation.”
According to a Statistics Canada 2012 Survey of Financial Security, 70% of people aged 55 to 64 are carrying some debt. One-third still have mortgages, 38% are carrying credit card debt and 29% have vehicle loans. The average debt level is $107,900 compared to $60,000 (adjusted) in 1999.
Debt levels for people over 65 has doubled from $31,000 in 1999 to $61,700, with 43% of this age group in debt.
Credit rating company, Equifax, says seniors, now with reduced incomes, are accumulating more debt to help maintain the lifestyle they enjoyed before retirement. The average debt for consumers over 65 climbed more than any other age group, and people over 60 are the fastest growing age category for bankruptcies.
Why so much debt?
The boomer generation has lived in a culture of spending. They have always had a more casual attitude towards debt than their frugal parents who lived within their means.
“They are used to borrowing money to live well, and now they’re carrying those same habits into retirement, with potentially dangerous consequences.” Gordon Pape
“Because people now live longer and healthier lives, Canadians are more optimistic about being able to pay back their debts as they grow older.” Susan Eng, CARP
Another key reason for having more debt is that more are supporting adult children (or grandchildren) for longer. Increasing real estate values have encouraged them to take out bigger second mortgages and lines of credit to help pay for their offspring’s education and down payments on homes.
Many boomers say their retirement strategy is to keep on working as long as necessary to pay their bills, even if that’s not what they prefer. Others will sell off valuables or downsize their homes.
The great asset transfer
Economists are predicting an inter-generational asset transfer of approximately one trillion dollars during the next several years.
Many boomers are depending on the Bank of Mom and Dad to pay off their mortgage and other debts, as well as fund their retirement.
This is a risky plan. Financial planning experts warn that boomers who are counting on a big windfall to fund their golden years may be in for a rude awakening. The inheritance may not be the pot of wealth that they are counting on.
As individual lifespans extend into the 90’s and past the century mark, living expenses continue for longer periods of time. These expenses can be substantial (retirement residence, home care, medications). Payments come from savings, eating up intended inheritances and resulting in a smaller amount being passed on to boomers who themselves may be in their 60’s, 70’s, and even 80’s before amy money arrives. Taxes can take a bigger bite than the beneficiaries expect.
Consider an inheritance a gift, not a guarantee.
Many people in their 50’s and 60’s have more debt and little in the way of savings. This means they are facing a reduced standard of living and financial stress in their retirement years. Consider the drain on cash flow that will result from making monthly debt payments.
Monthly CPP and OAS cheques will help, but government support combined with meager savings may not be enough to stay ahead of poverty level.
Do you want to be looking for a job years after retirement to pay your bills?
If you are getting ready for retirement you need to seriously address any debt you have and take the necessary steps to pay it off. It’s not going to take care of itself. Plans for eliminating debt should be part of your overall financial strategy.
This is one of the best investments you can make.