If you have a second mortgage on your home and fall behind in payments, the second-mortgage lender might or might not foreclose, depending on the home's value. Read on to find out what happens if you stop making payments on a second mortgage and when the lender might decide to initiate a foreclosure.
A second mortgage is a loan you take out using your house as security. The mortgage is junior to another mortgage (a first mortgage). A few common examples of second mortgages are home equity loans and home equity lines of credit (HELOCs).
A senior lien, such as a first mortgage, takes priority over a junior lien, like a second mortgage. "Priority" determines which lender gets paid before others after a foreclosure sale.
Generally, priority is determined by the date the mortgage or other lien is recorded in the county land records. Though, some liens, like property tax liens, have automatic superiority over essentially all prior liens.
First mortgages are, as the name suggests, typically recorded first and are in first-lien position. Second mortgages are usually recorded next and are therefore in second position. Judgment liens, if any, are often junior to a first mortgage and possibly a second mortgage, as well as perhaps other judgment liens previously filed by other creditors.
If you refinance your first mortgage, that lender will require the second-mortgage lender to execute a subordination agreement. In a subordination agreement, the second-mortgage holder consents to subordinate its loan to the refinanced loan. The subordination agreement allows the refinanced loan (the newest loan), which would be junior based on the recording date, to jump ahead in line. The refinance loan then takes the first lender's place in terms of priority.
A lender can choose to foreclose when a borrower becomes delinquent on a mortgage loan, whether the mortgage is a first or a second mortgage. If you default on your first mortgage, the lender will very likely begin foreclosure proceedings.
If, on the other hand, you default on a second mortgage, whether that lender will initiate a foreclosure depends mainly on the current value of your home.
If you have equity in your home (the home's value is greater than the amount you owe on your first mortgage), your second mortgage is at least partially secured. When you fall behind in payments on the second mortgage, the second-mortgage holder will probably initiate a foreclosure because it will recover part or all of the money it loaned to you once the property is sold at a foreclosure sale. The more equity in the property, the greater the likelihood that the second-mortgage holder will foreclose.
If your home is underwater (your home's value is less than the amount you owe on your first mortgage), your second mortgage is effectively unsecured. So, if the second-mortgage holder foreclosed, the foreclosure sale proceeds wouldn't be sufficient to pay anything to that lender.
In most cases, if you're underwater and fall behind on payments for your second mortgage, the holder of the second mortgage probably won't start a foreclosure because all the money from the foreclosure sale would go to the senior lender. But the second-mortgage lender could still sue you personally for repayment of the loan.
Again, even if the second-mortgage holder decides not to foreclose, that lender can sue you to recover the money it loaned you. This type of suit commonly happens after the first-mortgage holder forecloses, though it could happen sooner.
In a first-mortgage foreclosure, any junior liens, including second mortgages, HELOCs, and others, are also foreclosed. And those junior lienholders lose their security interest in the real estate. This kind of lienholder is referred to as a “sold-out junior lienholder.”
Sold-out junior lienholders. When a junior mortgage holder has been sold-out in a first-mortgage foreclosure, that junior mortgage holder usually can, depending on state law, sue you personally on the promissory note to recover the money it loaned you.
How second-mortgage holders collect from you. If the junior lender wins the lawsuit and gets a money judgment against you, that lender may generally collect this amount using regular collection methods, like garnishing your wages or levying your bank account.
Filing for bankruptcy might provide some relief. Filing for bankruptcy can potentially reduce or eliminate this type of debt.
If you're facing a foreclosure and have multiple liens on your property, consider talking to a foreclosure attorney to find out what will happen to those liens and learn about various options in your particular circumstances. Also, read about alternatives to foreclosure and make an appointment to talk to a (free) HUD-approved housing counselor.