Second mortgage
[17] These close ended loans require borrowers to make principal-and-interest repayments on a monthly basis in a process of amortisation.
Home equity loans are commonly used for debt consolidation or current consumption expenditures as there is generally lower risk associated with fixed interest rates.
[17] Home equity lines of credit are open ended loans in which the amount borrowed each month may vary at the homeowner's discretion.
[24] Typically, the home buyer purchases a primary mortgage for the full amount and pays the required 20 percent down payment.
[5] During the loan term, monthly mortgage repayments and appreciating real estate prices increase the property's equity.
[13] This financing option also offers competitive interest rates relative to unsecured personal loans which reduce monthly repayments.
[26] With reference to unsecured personal loans, lenders are exposed to a greater level of risk as collateral is not required to secure or guarantee the amounts owed.
With increased cash flow, second mortgages are used to finance a variety of expenditures at the discretion of the borrow including home renovations, college tuition, medical expenses and debt consolidation.
[31] Those unable to obtain the downpayment requirement must pay the additional expense of private mortgage insurance (PMI) which serves to protect lenders during the event of foreclosure by covering a portion of the outstanding debt owed by the buyer.
[39] Whilst paying points increases upfront payments, borrowers are subject to lower interest rates which decrease monthly repayments over the loan term.
[42] Escalating real estate prices are common in low interest rate environments which increase borrowing capacity, in addition to lower underwriting standards and mortgage product innovation that provide greater access to credit.
[6] These non-traditional mortgage products can decrease the cost of financing a home or enable homebuyers to qualify for more expensive properties.
[35] For the same reason, existing homeowners have access to greater home equity, which can be used as a source for additional funds by opening a second mortgage.
[25] Lower interest rates increase the capacity to sustain a given level of debt, encouraging homeowners to withdrawal housing equity in the form of second mortgages.
[51] Due to stringent regulatory practices in the 1960s, banks were competitively disadvantage relative to non-bank financial intermediaries which led to a loss in market share.
[47] Due to high real estate demand, housing loans became extremely profitable which increased competition for incumbent banks.
[54] In contrast, mortgage brokers utilised securitisation to obtain cheap funding and offer rates 1 to 1.5ppt lower than existing lenders.
[55] This created strong financial incentives to originate large volumes of loans regardless of the risk and was reflected in the minimal entry qualifications for participants, the use of commissions for the remuneration for brokers, lack of accountability and poor advice provided to consumer clients.
Poor underwriting standards by banks and lending institutions played a significant role in the rapid increase of second mortgages during the early 2000s prior to the Global Financial Crisis (GFC) in 2007.
[34] This was heavily influenced by economic incentives and opportunities that arose during the United States housing bubble which encouraged riskier loans and lending practices.
Additionally, Fannie Mae and Freddie Mac provided similar deals to low-income borrowers including loans with LTV ratios exceeding 90 percent of the property's value.
As lending standards continued to relax, LTV ratios extended to 107 percent which reflected home buyers rolling application and origination fees onto their mortgage loans.
