Secured loans and second mortgages

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Housing laws vary between Scotland and England. This page applies to Scotland only. Get advice relating to England

If you already have a mortgage on your home, you may be thinking about taking out a second mortgage or a secured loan. This page explains what secured loans and second mortgages are and how they work. Before you take out a loan, make sure you read the credit agreement with the lender carefully, so you understand exactly what you're committing yourself to and what will happen if you can't make the payments.

What is a secured loan?

If you are a home owner, you can take out a loan from a bank, building society or other financial institution which is secured against your home. This means that the lender has the security of knowing that if you can't continue to make payments towards the loan, you will be able to pay it off if your home is sold. Therefore, if you can't make the repayments, your lender may take action to repossess your home. A secured loan will show up in the title deeds to your house.

Before you agree to take out the loan, the lender should make it very clear that this is the situation. If the information they give you isn't clear, ask them to explain it to you. You can also get advice from an independent financial adviser, although they may charge a fee.

Secured loans are often advertised on TV and can seem very attractive but remember that they carry a risk to your home if you don't pay them back.

How much can I borrow?

Depending on your personal circumstances, you can usually arrange to borrow from around £3,000 to £50,000, although some lenders may be prepared to lend smaller or larger sums.

Why do people take out secured loans?

You can take out a secured loan for many purposes, including:

• starting up a business
• carrying out repairs or improvements to your home
• debt consolidation (when all your debts are collected together and you make just one payment to a lender).

How do I pay off the loan?

When you take out the secured loan, you'll agree a payment plan with the lender. This will set out:

• how much your monthly repayments will be
• how much interest you'll pay, and
• how long you will have to pay off the loan (this is called the 'term' of the loan).

How much interest will I pay?

The amount of interest you're charged will depend on:

• how much your home is worth
• what your credit rating is like (for example, do you have any credit or store cards or have you defaulted on loans in the past?)
• other personal circumstances.

How long will I have to pay the loan off?

The term of the loan will vary depending on how much you are borrowing and how large your repayments are. It's possible to get a short-term secured loan for a year but the term may be as long as 25 years. Bear in mind that you'll probably have to pay a penalty if you pay the loan off early - check the small print to find out if this is the case and make sure you understand what's what before you sign anything.

What's the difference between a secured loan and a personal loan?

Personal loans are not secured on your home and they won't show up on your title deeds. This means that you don't need to be a home owner to take out a personal loan. The loan agreement is a personal contract between you and the lender.

A personal loan could, however, affect your personal credit rating and your ability to get a mortgage or other credit.

The minimum amount you can borrow is usually £500, and the maximum amount is usually £25,000. If you need to borrow any more than this, you'll probably have to take out a secured loan. The interest on personal loans is higher than the interest on secured loans, because the lender is running a greater risk that you won't be able to pay back the money.

What is a second mortgage?

A second mortgage isn't the same as a mortgage on a second home. A second mortgage is a type of secured loan, which is taken out on a property that is already mortgaged. You can usually only take out a second mortgage if the value of your home has increased since you bought it (in other words, if you have some 'equity' in your home).

If you are thinking about taking out a second mortgage, you can speak to other lenders and shop around for the best deal. You don't necessarily have to take out a second mortgage with the same lender as your first mortgage.

However, you'll have to get your existing lender to agree to the second mortgage before you take it out. You'll also have to tell your new lender about your existing mortgage before you agree to anything. Both lenders will want to make sure that they will get their money back if you can't keep up the repayments for any reason and, if you already have a mortgage, it may affect what you can borrow second time around.

Usually, your first mortgage lender will take priority if you can't pay the money back but there are complicated legal rules about this. The order in which lenders would be entitled to get their money back is called 'ranking' and some lenders may want a 'ranking agreement' before they'll lend you more money. If you're in this situation, you should speak to a solicitor for more advice or visit a money advice centre.

How much can I borrow?

The minimum amount you can borrow for a second mortgage may be quite high, around £15,000. The maximum amount will depend on the value of your home.

How much interest will I pay?

You'll usually have to pay more interest on a second mortgage than a first mortgage, because the lender is taking more of a risk in lending you the money.

What's a further advance?

If the value of your home has increased since you bought it, you may be able to borrow more money under your existing mortgage. Sometimes this is called a 'further advance'. If you are extending your mortgage in this way, it may be under the terms and conditions you agreed to when you originally took out your mortgage. However, the terms and conditions may be different so you must make sure what they are before you agree to anything.

Can I take out insurance?

Most lenders offer insurance policies or payment protection schemes to cover your monthly repayments in case you have an accident, fall ill, lose your job or die. If you decide to take out this insurance, make sure you read the small print very carefully, especially if you have any form of illness or disability, as the policy may exclude payment for medical conditions that you already have when you take out the insurance policy. You don't have to take out the insurance offered by the lender you have the loan with - it may be best to shop around and see if you can get a cheaper deal elsewhere.

How am I protected if I take out a loan?

If you take out a loan, it may be regulated by the Consumer Credit Act, which means you will have extra rights. Your loan will probably be regulated if:

• the loan is not a first mortgage, and
• it's not a specially exempted loan, and
• you took the loan out after 6 April 2008, or
• you took the loan out after 1 May 1998 and before 6 April 2008 and your loan is for no more than £25,000, or
• you took the loan out before 1 May 1998 and your loan is for no more than £15,000.

If your loan is covered by the Consumer Credit Act, it should state at the top of the loan agreement, 'Consumer Credit Agreement regulated by the Consumer Credit Act 1974'.

Taking out a loan

The Consumer Credit Act contains strict rules about how money can be lent. These rules state that:

• the lender must give you a written copy of the agreement when you take out the loan
• the lender must allow you a seven day 'consideration period', to give you time to understand the terms and conditions of the credit agreement
• the lender must send you a statement at least once a year and must inform you when there are problems, for example if you go into arrears
• if you default on the loan and the lender needs to start repossession proceedings, they must (in most cases) send you a notice of sums in arrears and then a default notice, before they begin legal action
• if you are charged an extra sum of money (called a 'default sum') for breaking the credit agreement in any way, the lender must send you a notice of default sums to let you know, and cannot ask you to pay interest on the default sum until 28 days have expired since they sent the notice
  
• you may be able to apply for a time order to stop repossession proceedings and give you an opportunity to clear your arrears.

Extortionate interest rates

If you think the lender has charged you an overly high or extortionate interest rate, you can go to the sheriff court to get the rates changed. There is no set level of interest that is considered to be extortionate. Instead, the court will look at the individual circumstances (for example, the level of interest rates when the loan was taken out and the amount of risk involved for the lender) before making a decision. Talk to a money adviser or your solicitor before taking in action, however.

Unfair terms and conditions

Under new laws introduced in April 2007, you can also go to court if you think the loan agreement between you and the lender is unfair, provided the agreement was made on or after 6 April 2007. If the court agrees, it may change the terms and conditions of your loan. If you took out a loan before 6 April 2007, this law will apply to you after 6 April 2008.

Talk to an adviser at a Citizens Advice Bureau or money advice centre to find out more about challenging extortionate interest rates or unfair agreements.

What if I have a secured loan or second mortgage and want to move house?

In this case, you may decide to:

• pay off the loan when you sell your home - remember you may have to pay a penalty if you pay the loan off early
• use your new home to secure the existing loan - the lender will need to ensure that the new home is of sufficient value to secure the loan.

Talk to the lender before making any decisions to find out what your options are. You will need a solicitor to do the legal work involved in selling your home and paying off or transferring your mortgage and they will be able to tell you how this will work in practice. For example, when selling a home, it is quite common to pay off an old mortgage with the money from the sale and then take out a new mortgage for the new home. You will have to sign some legal documents during the whole process but your solicitor will be able to explain what these mean.

What if I get into arrears?

If you fall behind with payments to a secured loan or second mortgage, the lender may be able to take steps to repossess your home. Therefore, it's important that you make this kind of loan your top priority, along with your mortgage. You can find out more about preventing or stopping repossession here.

If you think you may have problems making payments (for example, if you fall ill or lose your job) it's a good idea to talk to the lender as soon as possible, before you start falling behind with the payments. Depending on the flexibility of the loan, you may be able to arrange to reduce the payments and extend the term of the loan, or to take a payment break for a few months. Whatever happens, don't ignore the problem.

If you've already fallen behind with the payments, get in touch with your lender as soon as possible - you may be able to arrange a way of paying back the arrears over time, so you won't lose your home.

If you took out the loan to pay for essential repairs to your home, or to adapt your home to suit a disabled person, you may be able to get help paying the interest on the loan.

Talk to an adviser at the National Debtline or Consumer Credit Counselling Service or at a money advice centre near you - they should be able to help you work out a payment plan and negotiate with the lender. You can find out more about dealing with debt here.

What if I have a complaint about a lender?

If you're unhappy with the treatment you receive from a lender when you take out or apply to take out a loan, you should first complain to the lender in person and in writing. If you don't receive a satisfactory response, you can take your complaint to the Financial Ombudsman Service.

Where can I find out more?

Before taking out any kind of loan, it's important that you shop around, compare interest rates and other terms and conditions, and make sure you can afford the repayments. The Office of Fair Trading has some useful leaflets on consumer credit, which you can download from their website.