For many Americans, the dream of homeownership doesn’t stop at one home—it encompasses a second home as well. According to NAR statistics, the percentage of homes that currently function as second or vacation homes has risen to 6.3 percent—even in the midst of a pandemic. In fact, part of this trend has been caused by the availability of new work from home policies, making more frequent and long-lasting vacations a possibility for many families.
If you’ve been considering purchasing a second home, you’ll want to keep in mind the financial and logistical implications so that you can get the most out of the experience.
Choosing the Location of a Second Home
Many people fall in love with a vacation spot and impulsively decide to set up house in a second home in that area. However, this may not be the best place to purchase your second home. Here are some things to consider before you decide whether to buy in your favorite getaway location or whether to spend that money on a long-term rental there instead.
- How frequently will you be able to use the property? If the property is too far away or inconvenient to access, you may find that it is logistically difficult to set aside time to travel there, meaning that you’ll use it far less than you expect.
- How will a second home cut into your other travel? If your idea of vacation bliss is fairly consistent, a second home may be a good option. If you like variety, however, you may find that a vacation home becomes a bit ho-hum after a couple of years.
- Will a second home work for your family long-term? If your children are fairly young, will they still want to go to this vacation spot in five years? Ten years? Will changes in your family create changes in the desirability of this destination?
- How will you manage the property? Is there reliable property management in the area or will you find yourself constantly traveling to the home to take care of minor repairs or to check up on its condition?
- Can you withstand the financial impact of a second home? Are you saving adequately for your retirement or for emergencies? Do you have significant credit card debt? Do you have significant equity built up in your current home? Make sure you are on a sound financial footing before you take on the expense of an additional home.
- Is the second home part of a long-term plan? Will you eventually retire there or allow one of your children to live there? This may make a difference in terms of practicality.
- Have you explored home prices, appreciation, and amenities in the area to ensure that this property and neighborhood is the right fit for you?
Financing a Second Home
Financing a second home can be as simple as financing your first home. You may obtain a conventional mortgage just as you would for a primary residence. However, be aware that lenders generally see a second home as a riskier proposition than a primary residence, so you will probably pay higher interest rates and the credit and income requirements may be more stringent.
If you don’t want to take out a brand new mortgage, consider the following strategies:
Home Equity Loan
Today’s record high equity levels and record low interest rates may make a home equity loan a good option for financing your vacation home. By tapping into your home’s equity you may be able to afford a second home while keeping your current monthly payment nearly the same.
Home Equity Line of Credit (HELOC)
If you’d prefer to keep your current home loan, you can open a home equity line of credit to fund your vacation home in full or to fund the down payment for its purchase. This offers you the added benefit of HELOC funds that may be used for other purposes, including updates and upgrades to your primary residence as needed.
Affording a Second Home
If you are thinking about how to pay for that second home, you may decide to rent it out for part of the year in order to offset some of its cost. If you’ve applied for a new mortgage, however, this may turn your second home into an investment property, creating significant changes to the financing and tax structure.
One alternative is to purchase your second home as a joint venture with friends or family members. If you decide to go this route, you’ll want to ensure that you have a legally binding written agreement in place covering the ground rules for the use of the home, as well as contingencies in the case of death, divorce, or a desire on the part of either party to opt out of the home’s use and financing.
While it may feel uncomfortable to have these conversations, they can save you significant heartache and money in the future. By spelling out the rights and responsibilities ahead of time, you’ll make sure that everyone goes into the transaction with eyes wide open.
Tax Implications of a Second Home
For the purposes of the mortgage application, a second home cannot be used as an investment property. For the purposes of taxes, there is an allowance of a few days of rental each year. Talk with your tax advisor about how you plan to use the home and the impact on your overall tax liability and deductions. If your second home is in another state, talk about how property ownership in that state will affect your tax burden as well.