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should view the
the eyes of an
80 Scotsman Guide Commercial Edition | ScotsmanGuide.com | September 2018
A second mortgage with a short term of one to five years can create many opportunities for borrowers who own businesses, or for those who simply want to convert equity into downpayment funds for another investment. In general, however, private-money loans
require a different approach to underwriting than their institutional-
There are six attributes to be considered in regard to the borrower
and their property with respect to a second mortgage. In order of
importance, these attributes include the following: contributed equity,
the location of the property, the property’s condition, the borrower’s
ability to repay, their exit strategy and their credit report.
There are several extra steps and considerations when applying
for and processing a private-money second mortgage. At the time
of the loan submission, it is a good idea to include a copy of the
first-mortgage note and the most recent first-mortgage statement.
If a lender is taking the added risk of a second-lien position, they will
want to know the exact loan terms of the first mortgage they will be
The most recent mortgage statement is important to make available, so the second-mortgage lender can verify the loan balance,
interest rate and monthly payment amount of the first mortgage,
as well as the senior lender’s contact information in the event they
need authorization or verification of any items. In the event of
default, the junior lender will be responsible for paying the senior
lender until the foreclosure process is completed.
Having all of the information for the first mortgage will assist the
junior lender in providing an accurate loan amount and will speed
up the approval process. Along with the new deed of trust, the junior
lender also will record a document known as a “request for notice,”
which requires the county recorder’s office to notify the junior lender
if the senior loan goes into default.
Commercial mortgage brokers should view the second-mortgage
product through the eyes of an underwriter and ask a key question:
Why would the underwriter fail to approve the loan request?
First, take a look at the underlying debt on the first mortgage and
compare it to the requested second-mortgage amount. A good rule
of thumb is a ratio of 4-to-1 or higher. If the first-mortgage balance is
$400,000, for example, it does not usually make sense to grant a second loan of less than $100,000. In this case, a second loan of $100,000
or more would make sense, assuming it falls within the junior lender’s
Take a look at the interest rate on the senior loan. If the rate is high
or the senior loan is through a private lender, this will hurt the borrower’s chances of approval. Is the rate fixed or adjustable? Usually, a
private lender will only offer a second mortgage in conjunction with
a fixed-rate first mortgage. It is too risky to have a loan in a subordinate position when the first mortgage’s interest rate — and its
monthly payment — can increase. Additionally, junior lenders don’t
want to be exposed to a large monthly payment on the first mortgage
in case it goes sour, especially if their own investment is only yielding
a small amount.
Identify the escrow or impound account on the first mortgage.
This helps a borrower’s chances of approval because the junior lender
can see whether taxes and insurance are being paid. Prepayment
penalties, especially long-term ones, are viewed as a potential
loan-to-value (LTV) increase because the second lender would have
to cover that amount if they are forced to repay the senior loan
before the penalty period is over.
The original borrowers on the first mortgage must be the same as
those on the second loan, unless the first mortgage was formally reassigned. Otherwise, the junior lender risks having to pay the balance
of the first loan if the due-on-sale clause is exercised. Also, in regard
to acceleration, if the first loan goes into default, an underwriter will
ask if it can be reinstated or cured, or if the senior lender can require
the loan to be paid in full.
Sometimes a senior loan with modified terms looks better in the
eyes of a junior lender, unless there’s a clause that cancels the
modification terms if the borrower goes into default again. Any
current or past delinquencies on the senior loan gives an underwriter
a good idea of previous performance so they can properly assess
borrower risk and price the loan accordingly.