First mortgages: everything your client needs to know

1. You bought a home with a mortgage.
2. Afterward, you took out a second mortgage in the form of a home equity loan.
3. If you defaulted, the mortgage lender on your first loan would be able to claim first the funds from the foreclosure sale.
4. The second mortgage lender, on the other hand, would be able to claim the remaining proceeds, if there are any.
5. If you have multiple liens, the same priority will continue.

There are, of course, exceptions to the chain of priority. For example, any property taxes you may owe will usually be repaid first before any other claim. Also, if you file for bankruptcy, a court will decide the claim that takes precedence.

Example property purchase

You purchase a $300,000 property with a $240,000 mortgage, which is the first mortgage on the home. After a few years, the value of your home increases to $330,000. By this time, the balance of your first mortgage has been paid down to $100,000. In order to do some home improvements, you take out a home equity loan, or a second mortgage, worth $50,000.

Then you run into financial difficulties, are unable to make the payments, and fail to work out a fix with your mortgage lender, which chooses to recoup its losses by starting the foreclosure process. If your property sells at auction for the $330,000 the home is currently valued at, the first lender will recoup the entire $100,000 still left on the mortgage. The second lender, meanwhile, will be able to recoup the $50,000 price tag of the second loan.

If, however, the property sells under the $330,000 valuation, the first mortgage lender may only get a portion of the money and the second lender may get nothing.