There are lots of reasons why you might need to take out a loan, from a renovation project to a new car, and if you own your own home, you can use it as collateral.
These are called homeowner loans, also known as second-charge mortgages, and they allow you to borrow money which is secured against your home. They are secured loans, as they need an asset — your home — to be used as security against the loan.
Homeowner loans can be a lifeline if you’re in need of extra money and they’re often used by people who need to borrow money but don’t want to re-mortgage or extend their current mortgage.
Yet there are risks too if you’re unable to pay the loan back and in the worst-case scenario, you could lose your home.
Here I look at everything you need to know about homeowner loans, from how they work and who they might suit to the pros and cons, the best alternatives, and how you can apply.
What is a homeowner loan?
A homeowner loan is a secured loan where the borrower uses their home as collateral against a loan.
The property is secured against the loan, lowering the risk to the lender of losing their money. However, these loans are high risk to the borrower because if they can’t make the repayments, their home — the asset — could be seized.
Another name for homeowner loans is second-charge mortgages because like a mortgage they are secured against a property.
If you’re thinking about taking out a homeowner loan, you will need to own your home and have some equity if you don’t own it outright.
The value of your home, and how much you already own, will determine the size of the homeowner loan you’re able to get. Lenders will also look at things like your credit score and your salary when deciding whether to lend to you or not, what size the loan will be, and what interest rate to charge you.
How do homeowner loans work?
As homeowner loans are secured against a property, you must own your own home to apply for one. You don’t need to own your home outright, but the amount you own will impact the size of the loan available to you.
Loans can be paid back over a set period, which can be up to 35 years. When you take out a loan, you will be told the amount you can borrow, how long you have to pay it back, how much interest is charged on the loan, and how much your monthly payments will be.
Homeowner loans are set out a bit like mortgages. A provider will look at how much of your property you own and lend you a figure based on this. For example, if your home is worth £400,000 and you have £200,000 left on your mortgage, your equity is £200,000. You will then be able to borrow up to £200,000, depending on the provider you choose.
Borrowers can access larger sums of money through homeowner loans, often at cheaper interest rates, as there is less risk for a lender with these loans. In comparison an unsecured loan, which isn’t backed by any type of asset, will usually cost more money and the sums available will be lower.
A lender will also look at other factors when you apply for a loan.
These include:
- Your income
- Any current debts you are paying off
- Your credit score
- How long you would like to borrow the money for
- Your age
How much do homeowner loans cost?
You will be charged a rate of interest on your homeowner loan, and this will be dependent on the amount you’re borrowing, your own financial situation including your credit score and income, and also how long you want to borrow the money for.
As the loan is backed by your property, if you have a poor credit score this doesn’t mean you won’t be approved but you may be given a higher interest rate than someone with a good credit score. In comparison with unsecured loans, many people with poor credit scores aren’t approved for some of the best products available.
When comparing the costs of a homeowner loan, you will also need to look at the following:
- Early repayment fees
- Late payment fees
- Legal fees
- Broker fees
- Valuation fees
How much can you borrow with a homeowner loan?
The amount you can borrow depends on lots of different factors and a lender will need to look at your application carefully before deciding on an amount.
One of the most important areas it will look at is the equity you already own in your home. Then it’ll look at things like your income, your savings, and any outstanding debts you have.
Why would you need a homeowner loan?
There are many reasons for taking out a loan, but a homeowner loan which tends to be for more than an unsecured loan can be taken out for something like the following:
- Home improvements: If you have a big home improvement project coming up, such as a new kitchen or loft conversation, a homeowner loan could help pay for it.
- Debt consolidation: If you have expensive debts you’re paying off, paying one monthly sum towards them could be more manageable and in some cases cheaper.
- House deposit: You could also use a homeowner loan for a deposit on a second property such as a holiday home.
- Big ticket items: If you have an extended holiday or a big expense like a wedding coming up, a homeowner loan could provide the money for it.
The pros and cons of homeowner loans
Here I briefly look at the pros and cons of homeowner loans:
| Pros | Cons |
|---|---|
| ✔️ You can borrow larger sums of money than taking out an unsecured loan. | ❌️ You could lose your home if you can’t make the repayments. |
| ✔️ Interest rates are cheaper than with unsecured loans. | ❌️ If you pay back the loan over a long period, you will pay more overall as you will pay interest on these payments. |
| ✔️ Those with poor credit may be eligible. | ❌️ Early repayment fees often apply. |
| ✔️ More likely to be approved as you are putting up your house as collateral. | ❌️ Interest payments may be variable so can go up and down. |
| ❌️ You may be tempted to take out more than you can afford to repay. | |
| ❌️ Other fees may be included such as house valuation fees. |
Is a homeowner loan a good idea?
A homeowner loan is one way to borrow money but while it can provide a valuable lifeline, it won’t be the best choice for everyone. That’s why it’s important to carefully consider why you need the loan, how much you need, and how you will afford to repay it.
You will also need to weigh up the best alternative options. This could include re-mortgaging or taking out an unsecured loan, depending on your financial circumstances.
How does a homeowner loan affect your mortgage?
If you take out a homeowner loan, this will increase your monthly outgoings as you will need to start making repayments towards the loan. This could impact your ability to re-mortgage your property or if you need to take out a new mortgage on a different property.
Once the homeowner loan is paid off, however, it should not make a difference to your mortgage. It may even boost your chances of getting a better deal if you have been able to improve your credit score.
How to apply for a homeowner loan
Applying for a homeowner loan is a little like applying for a mortgage and while the process is different for each lender, most follow these steps:
- Compare loans and apply: Shop around for a homeowner loan and make sure you’re looking at all the fees involved before you apply. When you apply you’ll need to give details such as your name and address, your profession and income, as well as details about the loan such as how much you want to borrow and over what time period you can pay it back.
- Decision in principle: When you have applied, the lender will offer you a Decision in Principle. This is similar to when you take out a mortgage, and a financial adviser will prepare the application which will include details like your bank statements showing your income.
- Application decision: Your lender will approve or reject your application, showing you the amount they are prepared to lend to you and at what price if you are approved.
- Offer: You can choose to accept or reject the offer given to you by the lender. If you agree to it, you will then need to complete the application which involves signing an agreement and agreeing on a date for the money to be transferred.
Can you get a homeowner loan with bad credit?
If you have a poor credit score, you may not be able to get one of the best unsecured loans. That’s because lenders will look at your credit score and may decide not to lend to you.
However, with secured loans, there is a higher chance of being accepted because you are putting an asset up as security against the loan. This means there may be a higher chance of you borrowing money even if you have bad credit.
However, lenders will still look at your credit score when deciding whether to lend you the money and what interest rate to charge you.
What happens if you move house with a homeowner loan?
If you move home but you still have an outstanding homeowner loan you’re paying off, you will have two choices:
- Transfer: You can transfer the loan to the new property, usually for a fee.
- Pay it off: You can pay off the loan using money from the sale of your property, but you may have to pay an early repayment fee.
What are the best alternatives to a homeowner loan?
There are several alternatives to a secured homeowner loan which are worth considering.
If you are accepted, the rate of interest you are charged will depend on things like your income and your credit score. Some options to consider include:
- Re-mortgaging: This involves taking out a bigger mortgage with your current provider or a different lender.
- Taking out a personal loan: If you have a good credit score you could borrow up to £25,000 through a personal loan.
- A credit card: The amount will be smaller but you can use a credit card for borrowing, just keep an eye on the interest rate offered.
