What’s One Reason to Choose a Split or Piggyback Loan?

A split, or piggyback, loan represents a specific financing approach for individuals purchasing a home. This strategy involves arranging two separate loans concurrently to fund a single property acquisition. The primary focus of this discussion is to outline the compelling reason why a borrower might opt for this particular financial structure over traditional mortgage options.

Understanding Piggyback Loans

A piggyback loan is a financing arrangement where a homebuyer takes out two distinct mortgages simultaneously to acquire a single property. This typically involves a larger first mortgage and a smaller second mortgage, often alongside a borrower’s own down payment. Common structures include an 80/10/10 or an 80/15/5 breakdown. For example, in an 80/10/10 scenario, the first mortgage covers 80% of the home’s price, the second 10%, and the down payment 10%.

The second loan in this setup is commonly a home equity loan or a home equity line of credit (HELOC). This second loan functions as a component of the overall financing, effectively reducing the upfront cash needed for a down payment. Each loan operates under distinct terms, including separate interest rates, repayment schedules, and monthly payments.

The Core Incentive for Borrowers

The primary motivation for a borrower to choose a piggyback loan is to avoid Private Mortgage Insurance (PMI). PMI is an insurance policy that protects the mortgage lender if a borrower defaults on their loan. Lenders require PMI for conventional loans with less than a 20% down payment, as this indicates higher risk.

The piggyback loan structure allows the borrower to arrange their financing so that the first, larger mortgage loan amount remains at or below 80% of the home’s value. For example, in an 80/10/10 arrangement, the first loan is precisely 80% of the value, satisfying the threshold often used to waive PMI for that specific loan. By doing so, the borrower bypasses the requirement to pay PMI, which would otherwise add an additional cost to their monthly mortgage payments. Avoiding PMI can lead to significant savings, making this option appealing for many homebuyers.

Key Aspects to Consider

While avoiding PMI is a significant advantage, choosing a piggyback loan introduces other financial considerations. The second mortgage, whether a home equity loan or HELOC, typically carries a higher interest rate than the first mortgage. This is because the second mortgage is riskier for the lender; in a foreclosure, the first mortgage lender is paid in full before the second receives any funds.

Borrowers will also manage two separate monthly loan payments, each with its own due date and terms. Closing costs for both mortgages also increase upfront expenses. These costs include origination fees and other administrative charges for each loan.

Having a second lien on the property can also affect future refinancing options for the first mortgage. Refinancing the first mortgage may require a subordination agreement, a legal document where the second mortgage lender agrees to maintain its junior position behind the new first mortgage. Without this agreement, or if the second lender refuses, the borrower might need to pay off the second loan entirely before refinancing the first. Therefore, compare the total costs of a piggyback loan, including interest and closing expenses, against a single mortgage with PMI to determine the most economical path.