Refinancing Mortgage Loan May Require Subordination Agreement

Q: We are refinancing our first mortgage and as part of the commitment letter, the bank is asking for us to provide a “subordination agreement.” We have a second mortgage with the same bank. We have no other mortgages or liens. Why are they asking for this form and what does it mean to us?

A: Presumably you are keeping your existing home equity line of credit (HELOC) and the lender is only refinancing the primary mortgage on your home.

When you took out that primary mortgage, it was probably 80 percent of the purchase price of the home. That lender wanted to make sure that the primary mortgage on your home was the first mortgage with the first priority on the home. In a nutshell, if you default on your primary mortgage, that lender would get first dibs on the proceeds from the sale of the home through foreclosure.

In your case, the first mortgage stands first in line, with the HELOC following in second place. If you were able to get a third loan on the property, that next lender would stand in third place.

When you pay off that primary mortgage and take out another loan, that next loan you take out gets in line behind the other loans on the property. So, the new mortgage would come behind the HELOC in order of importance. But your new lender wants to be first in line. To move to the front of the line it needs to get the second lender to subordinate its position in line to the new first lender.

Usually, you would get the request from the bank to get the subordination agreement signed when different lenders are involved. If your bank is a small bank, they could do the paper work "in-house." Larger lenders have different departments in various states with the mortgage department in one state and the HELOC and second mortgage departments in another state.

You should remind the lender that the HELOC is held by the company to see if your loan officer can help you out in getting the paperwork signed. The lender may tell you that it’s up to you to get it done. If so, you’ll need to call the toll-free number that your HELOC lender has provided to speak to the customer service department to determine where you need to send the document to get it signed.

Finally, some lenders will not sign the subordination agreement. Recently, one national lender indicated that they would no longer sign subordination agreements effectively forcing those borrowers to close their HELOC accounts with the bank and obtain a new HELOC account elsewhere.

In other cases, the HELOC lender may determine that your property value has declined, that you are no longer as good a credit risk as you were when you took out the HELOC, or that you have requested to increase the amount of your first mortgage. For these or other reasons the HELOC lender may refuse to sign the subordination document.

You shouldn’t wait to move on this. Since you know that you need the document signed, pick up the phone and start the process. Make sure your HELOC lender gets the document, approves it, signs it and sends it back to you for your closing.

If you know early enough that you have a problem with the HELOC lender, then, at least, you can find another lender to refinance your HELOC, or work with your HELOC lender to modify the terms of your current loan. If none of these plans work, you can decide whether now is really the time to refinance your primary loan and what you have to do to make it work.

Jan. 19, 2009.

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