GUIDE TO CONSUMER PURPOSE HARD MONEY SECOND MORTGAGES
This guide to consumer purpose hard money second mortgages is designed to be informational. The short of it (and this may be a bit of a letdown) is that this IS NOT a loan program we offer at First Capital Trust Deeds (FCTD), and nor do most hard money lenders. If you're looking for a simple yes or no, this is where we part ways.
But if you're interested in learning more about the why — and which financing paths may actually work for your situation — we'll break it all down below. FCTD receives several requests for different consumer purpose hard money second mortgages, due to the lack of quality information about these loan scenarios online. Our goal is to fill that information gap and steer you toward better alternatives.
Below are our most common scenarios:
- Debt Consolidation Loan
- Home Improvement Loan
- Down Payment/Closing Costs VA Loan
- $20,000 Second Mortgage on your Primary Residence
- Divorce Settlement
- Second Mortgage Behind a Reverse Mortgage
- Foreclosure Bailout
- Bankruptcy Buyout
- 85/15 Seller Financing Plus Hard Money Second Mortgage
But first, a little history and background on consumer purpose second mortgages…
What Is A Consumer Purpose Hard Money Second Mortgage?
A consumer purpose hard money second mortgage is a junior lien secured by a primary or second home, where the loan proceeds go toward personal or household expenses. The breakdown below will get you up to speed if you're new to this world.
Consumer Purpose: loans made to individuals or "consumers" for personal or household use, like a primary or second home, home improvement, debt consolidation, or personal income tax liens.
Hard Money: real estate loans made by non-bank or non-institutional lenders, based on the value of the "hard asset." Hard money loans are mostly used by real estate investors for short-term needs, like buying a fixer-upper or a vacant building, which don't qualify for conventional bank financing.
Second Mortgage: A junior lien recorded in second position on title behind the first mortgage. A second mortgage is subordinate to the first mortgage, meaning it's only repaid after the higher-priority first mortgage.
Why doesn't FCTD (and other hard money lenders) offer hard money second mortgages?
Consumer Purpose Lending
The simple answer is REGULATIONS. Consumer purpose lending is more tightly regulated than business purpose lending. The result is most hard money lenders focus exclusively on business purpose loans.
Since the 2008 financial crash, when over six million homes were lost to foreclosure, new regulations were enacted at the state and federal levels to protect homeowners from predatory lending and foreclosure tactics. These laws have benefited both homeowners and the mortgage industry as a whole. The quality of mortgages has increased significantly since the "toxic mortgage" period, from 2005-2007, providing a much safer market for housing and investing in conventional mortgages.
In 2010, the Dodd-Frank Act created a new regulator, the Consumer Financial Protection Bureau (CFPB), which developed new guidelines for mortgage lenders to follow. It added definitions for "consumer purpose" and "business purpose" loans, along with "qualifying" and "non-qualifying" mortgages.
In order for a lender to make a qualifying loan – meaning it fits the criteria to be sold to Fannie Mae or Freddie Mac – it needs to document a consumer's ability-to-repay (ATR) on the 30-year fixed-rate mortgage secured by their primary or second home. If the consumer doesn't meet the qualifying mortgage requirements, lenders can place them into a non-qualifying mortgage (NonQM), selling the loan to a different secondary market investor rather than Fannie or Freddie.
These tight regulations and longer timelines for due diligence make hard money lending for consumer purpose loans next to impossible. By their nature hard money loans are higher interest, shorter length and based more heavily on the asset’s value – and therefore unable to conform to strict Dodd-Frank guidelines.
BUSINESS PURPOSE LENDING – A DIFFERENT TYPE OF LOAN
Most business purpose hard money loans are 12-month bridge loans or construction loans to real estate investors. These loans are for either an investment or a bonafide business purpose. An example is a home builder using a hard money loan to build five single family homes to sell to consumers.
Business purpose loans don’t require documentation of a consumer’s ability to repay. The lender is making a loan against the hard asset (real estate), while underwriting the borrower’s real estate experience, liquidity, the business plan, the after repair value (ARV) of the finished project – along with other factors. These loans close fast (usually within 5-10 days) allowing borrowers to move quickly on investments. Below are some key differences:
|Business Purpose Hard Money Loans
|Consumer Purpose Loans
|Not subject to Dodd-Frank
|Subject to Dodd-Frank — tighter regulations and extensive underwriting
|Longer closing period
|Based heavily on the value of the hard asset
|Based primarily on creditworthiness and borrower’s ability to repay
|Shorter duration (12 months)
|Usually 30-year fixed mortgage
|Higher interest rates
|Lower interest rates
Hard money lenders aren't equipped to handle consumer purpose loans, and with all the hassle, there's no incentive to even bother. Only a handful even have the state and federal licenses for consumer purpose lending.
A hard money lender could theoretically do a consumer purpose second mortgage, following these steps:
Most common consumer purpose second mortgage requests
As I mentioned in the beginning, FCTD receives many consumer purpose second mortgage requests each month. We can help provide financing for exactly zero. This section digs into the most common requests — one of which may be similar to your second mortgage financing scenario.
Debt Consolidation Loan
You want to consolidate your sky-high credit card debt, auto loans, medical or other personal debts into one loan – a second mortgage on your home. Unfortunately, these all clearly fall into the “consumer purpose” category, and aren’t a viable match for hard money. A better option is to pursue a community bank loan, peer-to-peer lender or family and friends loan.
Home Improvement Loan
Your first or second home could use some upgrades. But because it’s not an investment but your residence, it’s firmly in the consumer purpose camp and outside the scope of most all hard money lenders. These loans are best served with Home Equity lines of credit – or even with a zero-interest home improvement store credit card from a big box retailer.
Down Payment/Closing Costs for VA Loan
You’re assuming a VA or FHA loan on the home you’re purchasing and reaping the benefit of the low, low rate — a nice perk considering current interest rates. You’ve been approved by the VA or FHA, but now need funds for down payment and closing costs. A hard money second mortgage is out of reach both because your loan is for consumer purposes, and hard money second mortgages are capped at 65-70% CLTV (Combined Loan-to-Value). No hard money loan would cover 100% CLTV.
I recently had a call about this from a buyer in Virginia and I suggested they ask if the VA allows seller carryback second mortgages, and if yes, see if the seller was open to carrying a second mortgage. Otherwise, the best route is to have your own down payment funds, or through gift funds from a family member.
The same problem arises for those who’ve been personally approved for a new FHA loan at 96.5%, but want funds for closing costs and down payment, such as a recent homebuyer I spoke to from Washington state. My advice was the same: whether assuming an FHA or VA loan, or applying for a new FHA loan, hard money is not going to take you across the finish line.
$20,000 Second Mortgage on Your Primary Residence
At FCTD, our average loan is $1 million. We’re optimized to handle large loans from experienced clients, and smaller loans are simply outside our scope and an inefficient use of our time and lenders' capital. Since your primary residence is an example of a consumer purpose loan, and mortgage brokers such as FCTD facilitate business purpose loans, you need to look elsewhere. Good alternatives include banks, credit unions, online lenders, or family and friends.
When one former spouse needs to tap equity in the family home to settle a divorce, it can be painful to part with that existing low-rate mortgage in the 2.50% to 4.00% range. Many people in this situation think that because hard money lenders don’t care about income – only the equity position in the property – that a hard money second mortgage is the way out. But hard money doesn’t operate in the consumer space. Even if it did, if they couldn’t qualify for a second mortgage at the bank or credit union at prime + 1.50%, they certainly won’t qualify for a hard money second mortgage at prime + 3.50%. However, there are a variety of alternatives, from credit unions, refinancing, repayment plans included in the divorce settlement, property sales, or loans from family members.
Second Mortgage Behind a Reverse Mortgage
Reverse mortgages are a financial tool for homeowners 62 and older that convert part of their home equity into cash, with repayment due in full when the house is sold. As consumer purpose loans, second mortgages behind reverse mortgages aren’t designed for the private money ecosystem. Even if a hard money lender wanted to dabble in this type of loan, they would have to record as the third trust deed, behind the first lender (initial draw) and HUD (negatively amortizing loan) – something no hard money lender would touch. However, the homeowner could borrow from a family member, who would record a deed of trust to be collected when the home sells.
You’ve fallen behind on your mortgage payment and received a Notice of Default – maybe due to a death in the family, a medical emergency, or job loss – and are desperate to avoid foreclosure and bring the mortgage current. However, a second mortgage is not the answer. Beyond the bailout being for personal consumer use, if you’re struggling to make a payment at 4% interest, imagine the difficulty at 12%! Not to mention a small, second mortgage is outside the range that makes sense to a hard money lender.
Instead, try to partner with your lender on forbearance or loan modification. Or, even if it seems difficult, consider selling the home and freeing yourself from the heavy financial burden.
You're in a Chapter 13 Bankruptcy with a 5-year plan but want to exit bankruptcy early with a hard money second mortgage. Your income levels have rebounded and you want out, either because you feel restricted by the plan or want to use equity in the home for real estate or other investments.
If you could somehow find a lender in your state (once again, this is consumer purpose vs. business purpose) they would need to be willing to do a bankruptcy buyout loan. Lenders who’ve done one don’t make the same mistake twice: the process takes a long time and a lot of work for what usually is a small loan amount of $50-75K. The best option overall is to simply stick with the bankruptcy buyout plan.
85/15 Seller Financing Plus Hard Money Second Mortgage
You’ve secured an 85% LTV first mortgage from the seller, but just need a hard money consumer purpose second mortgage to cover down payment, closing costs and moving expenses. This is a high-risk 100% CLTV consumer purpose second mortgage request that will go nowhere.
I recently had this request from a mortgage broker in Idaho. I advised them to go back to the seller and see if they’d be willing to go in at second position, up to 100% CLTV, behind a conventional first mortgage – assuming they qualified.
ALTERNATIVES TO CONSUMER PURPOSE HARD MONEY SECOND MORTGAGES
FCTD often refers consumers to the following resources, mentioned in the scenarios above, when they reach out about a consumer purpose hard money second mortgage secured by their primary residence or second home.
COMMUNITY BANKS AND CREDIT UNIONS FOR CONSUMER PURPOSE SECOND MORTGAGES
It’s common to see banks and credit unions offering home improvement mortgages, home equity lines of credit (HELOC), debt consolidation loans, credit cards, auto loans, and business loans.
I often steer homeowners to their local bank or credit union instead of a hard money second mortgage. There is plenty of second mortgage consumer purpose credit available from banks and credit unions – and almost nothing from hard money second mortgage lenders.
PEER-TO-PEER OR UNSECURED ONLINE LENDERS
The second category of financing we recommend consumers explore is peer-to-peer lenders or online lenders that offer unsecured loans to consumers, ranging from $5,000 to $150,000.
FAMILY AND FRIENDS LOAN
I've spoken to many people over the years whose financial situations prevent them from obtaining financing from a bank, credit union, or a peer-to-peer lender. The next potential loan source to consider is friends and family. No, it's often not ideal. It can be uncomfortable to ask, and mixing money with family or friends can cause tension. But, it's where some people have gone for the money they need to solve an immediate financial problem.
Consumer purpose hard money second mortgages aren’t easy to come by. In fact, in most states, they’re next to impossible to find, let alone obtain. Hard money loans are meant to be used by real estate investors for short-term uses – which doesn’t match up with the consumer lending laws and regulations of the 2010 Dodd-Frank Act financial reforms. It’s simply a mismatch between the credit needs of the consumer and the willingness of the lender – in this case a hard money lender.
Consumers are better suited pursuing their second mortgage financing needs elsewhere with community banks, credit unions, online peer-to-peer lenders, or through family and friends. These options offer more abundant credit than the nearly non-existent consumer purpose hard money second mortgage market.