How to Combine Two Mortgages Into One?

Having two mortgages isn’t as rare as you might think. People who amass enough equity in their homes often elect to take out a second mortgage. They might use this money to pay off a debt, send a child to college, finance starting a business, or make a large purchase. Others will use a second mortgage to enhance the value of their home or property through remodeling or constructing additions such as a swimming pool.

Two mortgages, however, can be trickier than holding just one. Luckily, there are mechanisms available with which to combine, or consolidate, two mortgages into one loan. But, the consolidation process may itself be tricky and the math may end up not making it worthwhile in the end.

Combining Mortgages

Let’s look at one example: You took out a home equity line of credit ten or more years ago and during the draw period—the time when you could “draw” on your credit line—you were paying a manageable amount: $275 per month on a $100,000 line of credit.

According to the terms of this loan, after ten years the draw period became the repayment period—the next 15 years where you have to pay down the loan like a mortgage. But you probably didn’t expect the $275 payment to become a $700 payment that could move even higher if the prime rate increases.

By consolidating the two loans, you could potentially save more than $100 each month and lock in your interest rate rather than watch it escalate if prime goes up. On the other hand, maybe you want to pay the loans off faster and want better terms that will help you do it. How does this type of consolidation work and is it a good idea?

Know What You’re Starting With

To understand what happens when you consolidate you have to know a few things about the current loans you have. If, when you go to consolidate loans, you realize that your second mortgage was used to pull cash out of your home for some reason—called a cash-out loan—it may add cost to the new loan and reduce the amount for which you qualify. Cash-out loans are priced higher, lenders say, because the borrower is statistically more likely to walk away from the loan if they get in trouble.

Then there is the rate/term refinance (refi). This type of loan is simply an adjustment on the interest rate and terms of your current loan. The loan is considered safer to the lender because the borrower isn’t pocketing any money or reducing the amount of equity they have in the property. You may have refinanced recently when mortgage rates dropped to historic lows. A mortgage calculator can be a good resource to budget for the monthly cost of your payment.

Why do these distinctions matter? According to Casey Fleming, branch manager at Fairway Independent Mortgage Corporation and author of The Loan Guide: How to Get the Best Possible Mortgage, they are important because the terms and the amount you will pay on new mortgages could be very different.

“Let’s say you and your neighbor are both getting 75% loan-to-value refinance loans, under the conforming loan limit of $417,000 (note: as of 2022, the limit has now been changed to $647,200). Yours is a cash-out, his is not. Your loan would cost 0.625 points more than your neighbor’s as of April 2021. And 1 point is 1% of the loan amount, so if your loan amount is $200,000, all things being equal you would pay $1,250 ($200,000 x .00625) more for the same interest rate as your neighbor.”

Think of it this way. If you originally acquired the two loans when you bought the house, it is not a cash-out loan since the second mortgage was used to acquire the home—not pull cash out of it. But later on, if you received money as a result of taking a second mortgage, that one was a cash-out loan, and so a new consolidated loan will be considered the same.

There’s another reason this distinction becomes important. Because cash-out loans are riskier to the lender, they may only lend 75% to 80% of your equity in your home versus 90% on a rate/term refi. Fleming puts it into plain English like this: “If your loan will be considered a cash-out loan, you will need more equity in your property to qualify.”

How to Consolidate

The lender will do all of the complicated paperwork that goes with consolidating the loans. Your job is to be an informed consumer. Don’t talk to one—talk to several.

Since the consolidation of two loans is more complicated than a straightforward home mortgage, it’s best to speak personally with as many as three or four lenders. You could talk to your bank or credit union, a mortgage broker, or take recommendations from industry professionals you trust.

Of course, ask them if the new loan will become a cash-out loan or a rate/term refi. Is it a fixed or variable rate loan? 15 or 30 years?

Once you’re happy with a certain lender, they will walk you through the process. Don’t sign anything without reading it first and make sure you understand the payment schedule.

If your loan is a cash-out loan, Casey Fleming says that there may be a way to convert it to a rate/term refi one year later.

“Consolidate the loans as cash-out but get a lender credit that pays for all of the costs associated with the transaction. Wait one year and refinance again. Since you are only refinancing a single loan at that point, it is not a cash-out loan. Now you can spend money on points to buy the interest rate down since you will keep the loan for a longer period of time.” Fleming goes on to advise doing this only if you believe that interest rates are stable or may drop.

The Bottom Line

“Never make a decision to refinance or consolidate loans based only on the reduction in your monthly payment. In most cases you will spend more over your lifetime on the new loan than you would simply paying off the existing loans,” Fleming says. “Millions of consumers keep mortgaging their future and ending up with tens or even hundreds of thousands of dollars less in retirement.”

Instead, determine how long you think you’ll stay in the house, and compare the cost of your current mortgage(s) to the new mortgage plus any costs associated with the new loan throughout the amount of time you will hold the loan. If your overall costs would be lower with consolidation, then consolidation is probably a good idea.