What is a silent second mortgage?

One of the most common obstacles for first-time home buyers is saving up enough money to make a down payment. While it’s possible to get a loan to help you make a down payment for a mortgage, you need to disclose it to the lender. Hiding a second mortgage is referred to as a silent second mortgage and it’s considered mortgage fraud.

However, the term is also used informally to describe legal, government-approved down payment assistance loans where payments are deferred. The penalty for not being truthful about your funding sources isn’t worth it, so here’s a look at alternative options for coming up with the money to make a down payment.

Key takeaways:

• Hiding a second loan is illegal: Secretly borrowing money from a seller, friend, or private investor to cover your down payment misrepresents your cash reserves to your primary lender and is punishable by up to 30 years in federal prison and fines up to $1 million.
• Disclosed assistance is legal and encouraged: Legitimate down payment assistance programs - such as soft, deferred, or forgivable second mortgages - are fully disclosed to your primary lender during underwriting.
• Legitimate alternatives exist: Buyers needing down payment help can utilize government-backed DPA grants, structured soft second loans, piggyback loans, or properly documented gift money from family members.

Illegal silent second mortgages vs. legal soft second mortgages

The difference between an illegal silent second and a legal, deferred second mortgage comes down to full transparency during the mortgage application process.

What makes a silent second mortgage illegal

An undisclosed second mortgage becomes illegal when a buyer takes out a second loan to cover all or part of their down payment without telling the primary mortgage lender. Hiding an additional debt obligation misleads the primary lender into believing the borrower has more cash on hand than they actually do.

This can impact their ability to afford their mortgage and puts the lender at higher risk. This is a form of mortgage fraud, punishable by up to 30 years in prison and/or a fine of up to $1 million as a federal crime. States also have their own statutes.

When a second mortgage may be legal

A second mortgage is legal as long as it is fully disclosed to and underwritten by the primary lender. Lenders routinely approve second mortgages - including home equity loans, piggyback loans, and government-sponsored down payment assistance loans – as long as all debt obligations are disclosed when you apply for the primary mortgage.

Example of an undisclosed down payment loan

Let’s say Ricky wants to buy a $350,000 house with a 20% down payment, so he takes out a mortgage for $280,000. However, Ricky only has $35,000 available for the down payment. So, he borrows $35,000 from a friend with a promise to pay it back. Since Ricky did not tell the lender about this $35,000, this is called a silent second mortgage.

If the lender finds out about that money, not only will Ricky’s application likely be denied, but there’s the potential for mortgage fraud charges. If the lender doesn’t catch it up front, you can also be charged later on after the mortgage closes. So it’s always best to just tell where the money is coming from.

Why silent second mortgages are risky

Silent second mortgages are problematic because an undisclosed loan from another person or entity means that an individual or other lender could have a right to the property. Because your home serves as collateral for a mortgage, the lender is basing their loan on their ability to potentially take the home back if you can’t make the payments.

Legal and financial penalties

Lying about or concealing a second mortgage on a loan application can violate federal law (18 U.S.C. § 1014). Convictions can result in up to 30 years in federal prison, fines up to $1,000,000, or both. Lenders can also demand full repayment of the mortgage balance under standard loan acceleration clauses if fraud is identified after closing.

Sources who would be willing to take the risk of giving you a loan without telling the primary lender are also taking a huge risk and may expect an interest rate to match. You also might be paying more interest based on having two loans.

Foreclosure and lien risks

If there are liens on the property that go undisclosed, the original lender faces potential problems getting paid in the event of foreclosure. A disclosed second mortgage means the primary lender gets paid first in a sale.

Refinancing and home equity risks

Because a silent second is undisclosed, you don’t have the option to refinance it into the primary mortgage down the line even if doing so would yield more favorable terms. Your home equity also builds slower, which can limit your options to do things like consolidate debt or make home improvements.

Use down payment assistance programs instead of silent second mortgages

Down payment assistance programs are designed to assist those who can afford a monthly payment but need help covering the down payment or closing costs. DPA programs come in the form of grants or loans, typically for first-time home buyers or low- to moderate-income households.

How down payment assistance works

Down payment assistance is often available through local and state governments as well as housing-focused nonprofits. Let’s run through some of the qualification questions:

• Are you a first-time home buyer? The definition often used by mortgage lenders is that you haven’t owned residential property in the last 3 years. There are typically exceptions for displaced homemakers and single parents who have only owned jointly with their spouse in the past.
• Do you meet income thresholds? Alone or in combination with a first-time home buyer requirement, programs may be set up to serve people who make below a certain income amount. It’s often not a dollar figure, but instead a percentage of income relative to the area you’re looking to purchase.
• What’s your credit score? The organizations who administer these programs often want to see that the people who get the assistance have a good chance of being able to afford and maintain the home.
• Do you have some down payment savings? Lenders and assistance providers themselves will require a minimum down payment contribution at closing from a home buyer.

What is a soft second mortgage?

Down payment assistance that comes in the form of a loan is sometimes referred to as a “soft” second mortgage because of terms that are considered more favorable for borrowers. Some of the common advantages of DPA loans as compared to others include:

The Department of Housing and Urban Development (HUD) maintains a list of state resources including available sources of DPA.

What is a deferred second mortgage?

A deferred second mortgage does not require monthly payments while you live in the home. The loan balance remains "silent" and only becomes due when you sell the property, refinance your primary mortgage, or move out.

What are forgivable second mortgage programs?

Forgivable loans only have to be paid back if you violate the conditions of the forgiveness. Terms vary by program, but a typical requirement might be staying with an employer you got the assistance from for a certain period or occupying the home for a minimum number of years.

Other silent second mortgage alternatives

Two other options can help cover a down payment or closing costs, and both are fully disclosed to your lender.

Piggyback loans

A piggyback loan allows a buyer to take out a primary mortgage alongside an additional loan to help cover the upfront costs. A common structure is for a borrower to make a 10% down payment, get a primary mortgage for 80% of the purchase price, and then cover the remaining 10% with a piggyback second mortgage. Piggyback mortgages often come with a higher interest rate because they’re second in position to the primary mortgage. 

Gift funds from friends or family

Buyers can accept down payment assistance gifts from relatives or close friends. Gift funds must be fully documented with a formal gift letter confirming that the money is actually a gift and does not require repayment. Lenders require bank documentation to trace the gift funds back to the donor's account.

Rocket Mortgage and down payment assistance

Check with your lender because they each may have their own requirements regarding the types of assistance they accept. Down payment assistance requirements at Rocket Mortgage include:

• Grants have to be generally available for other recipients and cannot be created just to help one person.
• We accept funding from 501(c)(3) nonprofits, federally registered Native American tribes, local municipalities and government entities, as well as employer assistance. For FHA loans, nonprofits must be approved by HUD.
• We don’t accept assistance provided by housing finance agencies, state housing authorities, or regional Federal Home Loan Banks.

FAQ

Here are the answers to some frequently asked questions about silent mortgages.

Is a second mortgage ever a good idea?

Yes, disclosed second mortgages – such as piggyback loans, legal DPA. or soft second mortgages - can be effective financial tools when approved by your primary lender.

Is a silent second mortgage illegal?

An undisclosed silent second mortgage is illegal federal mortgage fraud. However, legal deferred secondary loans offered through government DPA programs are lawful because they are fully disclosed during underwriting.

What is a ghost mortgage?

"Ghost mortgage" is informal shorthand rather than a defined legal term, and people use it two ways: for a second lien deliberately hidden from a primary lender, and for old mortgage debt that reappears unexpectedly years later. The CFPB has used the terms silent second mortgage and “zombie mortgage” for debt collectors pursuing foreclosure on second mortgages that homeowners thought had been satisfied long ago. If you're unsure what's recorded against your home, a title search will tell you.

Do I have to tell my lender about money borrowed from friends or family?

Yes, you must disclose all borrowed money used for a home purchase. If you don’t disclose a loan from friends or family on your mortgage application, it’s considered loan fraud. If the funds are a gift rather than a loan, you must provide a signed gift letter.

The bottom line: Avoid the risks of silent second mortgages

Silent second mortgages are those that aren’t disclosed to the lender of the primary mortgage. While some might see this as an avenue to pay for the down payment and closing costs associated with home buying, hiding a loan from your lender can be mortgage fraud. It’s better to look at down payment assistance options like grants and loans than to risk repercussions.

DPA comes in the form of forgivable, deferred, or low-interest loans, or grants you don’t have to repay. Gift funds are also a solid option. A good place to start is searching the web for the available programs in your area. If you feel more confident and you’re ready to look into your mortgage options, you can apply online.