answersLogoWhite

0

Second lien loan

Updated: 9/13/2023
User Avatar

Wiki User

15y ago

Best Answer

When you get a loan on a property you own, you pledge the property as collateral for the loan through a document called a mortgage (or Deed of Trust in some states). The mortgage gives the lender a "lien" on the property -- that is to say a "right" to sell the property in an attempt to recover the original loan amount.

For the lien to be enforceable, it has to be recorded in the county clerk's office. This establishes the official date and time the lien was established.

If you are the first lender to loan money against the property, you will have the lien of first priority (in terms of date and time) -- or, the first lien. If you are the second lender, the mortgage document which you receive from the borrower (pledging the property as collateral) is the second lien mortgage. This means you stand second in line behind the 1st lien mortgage holder in your claim to the asset.

Usually, the interest rate charged on a 2nd mortgage loan is higher than the first because of the added risk of standing second in line.

Why is that riskier? Here is an example:

Mr. Able owns a property free and clear (no debt) which is worth $100,000. He borrows $70,000 (signs a note) from Mr. Baker who charges him 5% interest. Mr. Able also signs a mortgage (as the Grantor) and thereby pledges his interest in the property as collateral for the loan. Mr. Baker has a first lien on the property.

Mr. Able needs more money and borrows $20,000 from Mr. Chance who charges him 10% interest and requires Able to sign a second mortgage. Mr. Chance has a 2nd lien and stands behind Mr. Baker in his claim against the asset.

Mr. Able becomes disabled and no longer pays on the loans. Mr. Baker, as the 1st lienholder, forecloses and takes possession of the property. He sells the property on the open market for $87,000 and spends $2,000 in legal fees to get this done.

The court sees to it that Baker gets his $70,000 back, plus the $2,000 in legal fees. How much money is left over? 87,000 - 70,000 - 2,000 = 15,000. Baker has been made whole... so Mr. Chance now gets his chance. He originally loaned 20,000 but only gets the remaining 15,000 -- so he has lost $5,000.

Which brings me to my final point regarding 2nd liens: did Chance get enough additional interest to adequately compensate him for the additional risk of standing second in line? If he had stood 1st, he would have been repaid in full (including legal costs). But by standing 2nd, he lost $5,000.

Chance received an additional 5% per year (his loan's 10% rate less Baker's 5%). That's an extra $1,000 per year (20,000 x .05). It would take 5 years for Chance's additional interest to recapture the principal loss of $5,000.

At this point, the two lender's experiences are financially the same. For 5 years, Baker collected 5% per year and then got all of his money back. Chance collected 5% per year for 5 years too. But then he lost $5,000 at the end of the loan period. Fortunately, his "additional" interest added up to $5,000 to make him whole.

Conclusion: In this case, with this expected loss rate, the 10% interest rate on the 2nd lien loan is an adequate "risk adjusted" return ONLY if the loan performs for 5 years before going into foreclosure. Any less time and Baker gets the better return. Any longer time frame and Chance comes out ahead (again, not taking compounding into account).

If you are considering making a 2nd lien loan to someone, you need to know (1) how much money is standing in line in front of you, (2) how long you think the loan will perform before it might go bad, and (3) if that happens, how much property value might be lost. Only then can you estimate an adequate, risk-adjusted rate of return to charge for making the loan.

User Avatar

Wiki User

15y ago
This answer is:
User Avatar

Add your answer:

Earn +20 pts
Q: Second lien loan
Write your answer...
Submit
Still have questions?
magnify glass
imp
Related questions

What is Par loan?

I am working in one of the MNC where I am recently transfer to Bank Loan department (Syndicate loan )so I want to Know about below loans.1) Par Loan.2) Distressed Loan.3) Term Loan.4) First Lien & Second Lien Loan


What Is Collateral Requirement For An SBA 504 Loan?

Collateral taken to get the SBA 504 loancommonly includes a second loan on the land and building or a second lien on the equipment that is financed.


Can a lien be temporarily lifted and then reinstated?

Yes, if the lienholder agrees to lift it. It is commonly called a postponement or subordination. This is very common in fact. If a person buys a home with a mortgage, that mortgage is a first lien. If the owner then takes out a home equity loan, that is a second lien because it was placed on the property after the first mortgage lien. Next, if that person refinanced the first mortgage, the new loan would pay off the first, eliminating it and giving the home equity loan the first position. The new loan would be in second position because it comes after the home equity loan. But the refinancing company would not agree to the refinance unless the home equity bank agreed to postpone or subordinate its the second lien and let the new refinanced loan become the first lien. The home equity bank would sign a document agreeing to allow the refincing bank get into first place. The home equity loan would then drop back into second place just as it had been before. In a sense the home equity lien has been lifted then reinstated. So it can be done but only with the lienholder's consent.


What is the Difference between a Junior Mortgage and a second mortgage?

The difference is really all in how the loans were originated. A junior mortgage refers to the lien placement on the property title. A second mortgage means a mortgagor has more than one loan on a property with the same lender. For example, If I purchase a home (assuming the title is clean and there are no liens on the title) and get the loan with ABC Bank then ABC Bank is considered the senior mortgage. If I obtain another loan with ABC Bank most commonly a HELOC or Home Equity Line of Credit then it is a second mortgage in second position. Let's say that after I obtained the second loan with ABC Bank, I chose to take out a smaller loan against the property with XYZ Bank. That loan will be considered a junior lien. The loans won't always fall that clean on the title however. You can have a junior lien between a senior lien and second mortgage. In the example above if the XYZ Bank loan was taken out before the second mortgage with ABC Bank then it would still be called a junior lien and the second mortgage with ABC Bank would be the second mortgage with ABC Bank but in third position. Hope that helps!


Can a loan company put a lien on your car if its not paid off?

If the vehicle was put as collateral for the loan, there already is a lien on it.


What is the statue of limitations on a car lien?

The lien is no longer applied to the vehicle when the loan is paid off. You can then get a lien release from the lender. As long as the loan has not been paid off the vehicle still has a lien on it.


How do you put a lien on a vehicle?

how can i put a lien on a motor vehicle for a loan that was put out and no payment made yet on the personal loan


What if you stop paying on my second mortgage?

They'll probably, eventually, foreclosure. (second response) The first lien holder will pay the second lien holder to prevent them from foreclosing on the property. A second lien would never get away with this, but if they did, boy would they be in the money. Imagine if you took a home equity loan out on a $200,000 home for $25,000 dollars. You stop paying on the second lien, and they foreclose. Their $25,000 investment just returned $200,000. Be a hell of a day for a bank. Flip side is, if a home with 2 liens does go into foreclose, the second (junior) lien gets nothing.


What Collateral Is Come To Secure The SBA 504 Loan?

Collateral come to secure the SBA 504 loan typically features a second mortgage around the land and building or perhaps a second lien around the equipment that's funded.


Can the title loan company repo if there the second lien?

Yes. If the lien was placed against the vehicle without the approval of the title holder, then it's an invalid lien, and if the other agency comes to collect on that lien and there's no collateral for them to take possession of, they very well could just end up suing you.


Putting a lien on your drivers license?

can a car loan company put a lien on drivers license


After 10 years is car lien valid?

Unless the lien is waived, yep. Did you pay the loan off? If so, get the lien lifted.