Using a new mortgage to purchase or refinance a home usually results in getting one mortgage. Maybe there are options such as choosing FHA vs conventional or possibly others. But, have you considered having two loans instead of one? Wait! Why would you want two payments instead of one? Quick assumptions go through a borrower’s head such as two payments equals a higher total payment. That’s more work and will be inconvenient writing two checks. What if I could tell you that getting two loans could actually be a very useful financial tool that should be considered? When adding a second mortgage simultaneously with a first mortgage, the second is called a piggyback mortgage.
Key advantages of piggyback mortgages include…
Types of Piggyback Mortgages
If a simultaneous second mortgage is being considered, what are the options? Typically, there are 3 potential types of piggyback mortgages. The most popular combo mortgage tool is called a home equity line of credit. HELOC for short. Basically, a HELOC is like a large credit card that has a high credit limit and interest / payments are based on the outstanding balance. Thus a HELOC provides many advantages such as…
- Future access to funds once the balance is paid down
- Potentially interest only minimum payments
- Lower rate than credit cards
- Low costs
- Disadvantage: Adjustable rate usually tied to Prime (although good when rates go down!)
Another type of piggyback mortgages is a closed end second mortgage. Thus, this second mortgage is an installment loan with a certain payback term, fixed interest rate, and fixed payment. Although, there is not access to future funds and it is not as flexible as a line of credit, it may fit some borrowers scenario better.
Finally, there is a seller held second mortgage. Although, not as popular as it used to be, it may be allowed and could have advantages. Seller held mortgages have a history of being tied to mortgage fraud, so they are thoroughly looked over when used. Therefore, a key restriction includes no short term balloon payments allowed. Usually, the only advantage or reason to use a seller held second is because the borrower cannot qualify for a traditional second mortgage.
Piggyback Mortgage to Avoid PMI
Probably the most popular reason for a second mortgage is to avoid private mortgage insurance. Years ago piggyback mortgages held a bigger advantage in monthly payments. More recently, PMI rates have decreased and are very competitive. So, a comparison should be made between a first mortgage requiring PMI vs a simultaneous first and second mortgage. Typically, a second mortgage combines with the first mortgage to finance up to 90 or 95% of the purchase price or appraised value. These combo mortgages are traditionally called 80/15/5 or 80/10/10.
What do these numbers mean? The first number is the percentage of the first mortgage compared to the purchase price (or appraised value on a refinance). The middle number is the percentage of the second mortgage compared to the price or value. Totaling these two figures will show the percentage put down. Finally, the last number is the down payment or equity percentage.
If a borrower’s goal is to borrow 95% of the appraised value and considers a second mortgage, then an option could be an 80/15/5. Since the first mortgage of 80% avoids PMI, the total payment should be compared with the first and second mortgage combination payment. Additionally, compare second mortgage advantages versus closing one mortgage. Remember that at a certain point, PMI is removed from a conventional loan too. Another 95% piggyback mortgage option includes a 75/20/5. Still at 95%, but the first mortgage rate is lower and there are other advantages of a larger second discussed later.
80/10/10 Simultaneous Closing
All of the same reasons exist as above, but the first two numbers total 90%. Obviously, it means the borrower has a 10% down payment or equity in the home. Reasons for this option include a better first mortgage rate and usually a better second mortgage rate. The reason for the lower rate is because of lower total percentage owed versus the appraised value. Just like the 80/15/5, a lower first mortgage may be used to help the rate and facilitate other financing strategies.
Using a Piggyback Mortgage to Exceed the Conforming Loan Limit
Most of the country has a conforming loan limit of $484,350 (based on 2019 loan limits). But, what happens when a buyer wants 95% financing above the conforming loan limit? Some may offer a 95% jumbo loan product, although the interest rate and PMI are often more expensive. Guess what? Using piggyback mortgages can help a buyer exceed the conforming loan limit to achieve 90 or 95% financing. Plus, take advantage of the pluses mentioned above!
Avoiding Jumbo Loan Example
For example, let’s assume a $605,000 purchase price on a house that has a county conforming limit of $484,350. Furthermore, the buyer wants 95% financing. Sure, there may be a 95% jumbo loan option. But, be ready to pay a lot more for it! Now, let’s consider a simultaneous first and second mortgage.
80% first mortgage = $484,000 (under the conforming limit)
15% second mortgage = $90,750
95% total mortgages = 5% down payment
Why Use Two Mortgages Instead of a Jumbo Loan?
With this example above, advantages include…
- Avoided PMI
- Better rate on the first mortgage
- Second mortgage options (HELOC or fixed rate)
- Waive escrows for taxes and insurance if desired
- One more advantage revealed next!
Piggyback Mortgage Funds Purchase Before Sale Strategy
Here’s a dilemma that happens when buying in a hot market. You found the right house, the seller will not take a contingent offer, your current home has a lot of equity but will not sell before this purchase closing, and you have little funds for down payment. Furthermore the buyer wants to put a lot of money down on the first mortgage after the current home sells. Then the final mortgage is at the payment level desired. That’s a tall order! But, you really want this house.
This is where a piggyback mortgage strategy comes in handy. Especially a home equity line of credit. Why?
First, let’s discuss the problems of getting one mortgage. Sure, a 95% conventional mortgage would meet some of the goals. Most obvious would be the low down payment. But, what about the payment once the other home sells? It may take a refinance to get rid of the PMI quickly and get the first mortgage payment down to the post-sale desired level.
Now, steps in the combo loan! Here are the advantages of piggyback financing…
- Set the first mortgage loan amount at the final desired payment
- Set the second mortgage amount at the level of proceeds desired to pay down after the sale
- Waive taxes and insurance escrows if you want
- Seller may pay up to 6% of the sales price in buyer closing costs (helps buy with lower cash to close)
- If using a HELOC for the piggyback, there’s a large line of credit in place for future use
Even if the first mortgage option with PMI has a lower payment, there are many more advantages of closing two mortgages in this case.
Piggyback Mortgages Allow Escrow Waiver up to 95%
Maybe you know that once you borrow over 80% of the sales price or appraised value, mortgage insurance is required. But, that only applies if the first mortgage exceeds 80%! Although, splitting up the mortgages into an 80% or less first mortgage and a piggyback mortgage is different. Now, escrows may be waived because the first mortgage does not exceed 80% of the price/value! Not everyone wants to waive escrows, yet it is available for those that prefer not to escrow.
Piggyback Mortgages Allow More Seller Paid Closing Costs
Let’s say a buyer wants a 5% down payment but wants to keep their out of pocket at that level. Additionally paying the closing costs cause an issue. Although, maybe its just a strategy to finance the costs into a low rate mortgage rather than bringing it to closing. First, let’s review the allowed seller paid closing costs for buyers on a conforming loan
|Down Payment Percentage||Max Seller Paid Cost Percentage|
|< 10%||3% of Sales Price|
|10% - < 25%||6% of Sales Price|
|25% or more||9% of Sales Price|
On a lower sales price with less down payment, the 3% seller paid closing costs could be a problem. Using one loan with PMI at 95%, the seller paid costs may not exceed 3%. Yet, an 80/15/5 combo loan would allow 6% of the sales price in seller paid costs! On a $100,000 sales price, that’s the difference between $3000 and $6000. You may think, the closing costs should not exceed 3% of the price. But, remember seller paid costs may pay for closing costs, origination fees, discount points, first year of insurance premiums, and escrow set up. At many sales prices, these amounts add up quickly.
Are you looking for a loan officer that can discuss strategies like this? Reach out now. You can see how these piggyback mortgage strategies can be pretty exciting! In the end, a first mortgage may still be the best option for you. But, you need to find out.