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If you’re thinking about buying a second home, you’re not alone. The U.S. boasts 7.15 million secondary homes, according to 2020 estimates (the latest available) from the National Association of Home Builders. The majority are in Florida, California, New York, Texas, Michigan, North Carolina, Arizona, Pennsylvania and Wisconsin. But you can find them in almost every state.
Before you join the second home club, prepare for long-term responsibilities. From paying taxes to renting it out, there are important real-life considerations to account for before making the purchase.
6 considerations before buying a second home
1. The full financial impact
As a second-home owner, all the financial responsibility falls on your shoulders — twice. For example, if you have a sewer pipe problem in your main residence and then, a short time later, your HVAC system needs repair in your second home, you’ll have two whopping, back-to-back bills.
Beyond mishaps, though, you’ll have to pay double the everyday expenses:
- Second mortgage payment (including homeowners insurance and property taxes)
- HOA fees
- Travel costs to get to the home
- Rental management fees
“It’s very important that buyers write out a detailed budget, taking into account contingent expenses — for example, will flood insurance be required and what is that cost? Are the appliances going to need to be replaced soon?” says Charles Nilsen, senior managing director at SVB Private, a private banking and wealth-management firm in Boston.
Although you currently might be able to afford these costs, keep your big-picture goals in sight, says Daniel R. Hill, president and CEO of investment advisory firm D.R. Hill Wealth Strategies, LLC, in Richmond, Virginia.
Hill encourages his clients to consider these money issues before jumping into another home:
- Are you saving at least 15 percent of your current income for retirement?
- Do you have six months’ of expenses (preferably nine months’) in an emergency cash fund readily available?
- Are you out of credit card debt?
- Is your current home paid off?
- If applicable, have you established a college fund for your children?
If you can check all of these boxes, you might be in a safer position to consider buying a vacation home, Hill says.
2. The financing options
As with any loan, banks will consider whether your income is sufficient to pay your costs, says Judith Corprew, executive vice president and chief compliance and risk officer at Patriot Bank in Stamford, Connecticut. Be prepared to have your credit report reviewed, as well as income, employment history, assets — and debts.
In fact, it’s not that different from applying for your primary mortgage, though it can be quicker, depending on the financing method you choose. Options include:
- Second home mortgage
- Home equity loan on your current home
- Home equity line of credit (HELOC) on your current home
- Cash-out refinance of your current mortgage
Consolidating outstanding credit card or other high-interest debt into a lower payment, using a HELOC or other low-interest products can help your financial picture look better to lenders, says John Sweeney, founder and managing partner at Momentum Capital Partners in Boston.
3. Ability to travel to other destinations
After 10 summers in Clearwater Beach, the appeal of warm Gulf waters might give way to the annoyance (and cost) of hurricane season. Likewise, a 10-hour scenic drive to a mountain cabin can quickly transform into a burdensome schlep after a while.
The point is: Do you want to get stuck vacationing in one place for the long term?
“Buyers should consider whether the second home will compromise their ability to travel to other places,” says Nilsen. “If the individual or family enjoys traveling to the same location each year, purchasing a home there may make sense, but it may be challenging to juggle the expenses of a second home with trips to other locales.”
4. Renting out your second home
Collecting rent money can be a smart way to subsidize your vacation property. However, there are laws that you should know before you buy. Keep in mind, laws vary by state, city and even neighborhood, so what works in one community, might not be allowed in another.
For example, in New York City, Airbnb is illegal unless the permanent resident is living in the apartment or the apartment is being rented out for more than 30 days.
For condominiums, buyers should find out if the condo bylaws allow for renters or Airbnb-like rentals. The same goes for HOA rules.
“Some communities require a minimum of 90-day rentals with prior association approval of the renter,” says Nilsen. “If that’s the case, buyers will want to assess whether finding qualified renters will require a Realtor and calculate the commissions that will need to be deducted.”
Cleaning services, insurance and general maintenance are costs landlords should include in their budget, as well. Since you can’t guarantee rental income, make sure you can afford these costs (including a monthly mortgage payment) on your own.
You might also have to forgo your desired time in the residence in order to attract customers, which could diminish the appeal and the point of a second home.
“Sadly, the most demand from renters is likely during the time you want to be there,” says Timothy Parker, managing partner at Regency Wealth Management in New Jersey. “When we look at numbers with clients we often end up suggesting they rent a home for a week or a month instead of entering the world of landlording. It’s often cheaper and comes with fewer hassles.”
5. Vacation home taxes
A vacation home is classified as either a personal residence or a rental property by the IRS. It’s a personal residence if you limit renting it out to 14 days or fewer per year; more than 14 days and it’s considered rental property. In most cases, you’ll have to report rental income regardless of the classification.
The big difference: If your vacation home is classified as a rental property, you won’t be able to claim the mortgage interest tax deduction. However, you can claim losses on your rental if the amount you spend exceeds your rental income. You can report these losses on Schedule E of your Form 1040.
Be sure to talk to an experienced tax professional about your potential liabilities and deductions. Keep in mind you can only deduct interest paid on mortgages of $750,000 or less total of all your homes.
6. Long-term investment potential
Anyone who remembers the housing crisis of 2007-09 knows that home values are not guaranteed. After the housing market peaked in 2006, home values plummeted by 33 percent nationally, wiping out equity and forcing homeowners into foreclosure.
While it can appreciate, many experts agree that residential real estate is not the ideal asset class for building wealth. So for folks who want to invest for retirement or other long-term goals, a secondary house might not be the best basket for nest eggs.
Reasons for owning a second home
With the rise of home-sharing and rental platforms like Airbnb and VRBO, owning a second home offers a way to generate passive income — particularly if the home is located in places where people like to vacation (think beach, national park, resort town).
At the same time, owning a second home allows for diversifying your assets beyond the usual stocks, bonds and 401(k) plan. A second home can also act as a buy-and-hold investment — real estate does tend to appreciate in value over time — and be a valuable asset to pass on to heirs.
Financial benefits aside, a second home can offer a place to have quality time with your family and ensures that you always have a vacation destination.
Should you buy a second home?
Consider the pros and cons to determine if you should buy a second home. Owning a second home means you have a vacation spot you can return to year after year without worrying about making reservations. A secondary home can also be a valuable financial asset, one that has the potential to increase your wealth over time if the home value appreciates significantly.
But you should also think about your finances. Can you afford the expenses associated with owning a second home, including ongoing maintenance and upkeep and property taxes? These types of expenses can put a strain on your budget or limit your financial ability to travel elsewhere.
In addition, if you’re considering buying a second home to rent, make sure your desired area isn’t in a location that has local laws limiting Airbnb-style rental homes. You should also consider the time and effort that goes into being a landlord and if that’s truly a job you want to take on.
How to buy a second home
If you’re buying a second home and will need financing to make the purchase, be sure to review your budget and ensure you can reasonably accommodate a second mortgage payment. You’ll also need to budget for such expenses as homeowners insurance, utilities and property taxes. When you’re ready to start shopping for a second home, you’ll need to find a real estate agent and get preapproved for a mortgage.
Next steps for buying a second home
Dreaming of a second home or vacation home is exciting, but instead of asking yourself whether you want to buy a second home, ask yourself if you should. First and foremost, run the numbers. A second residence might be well within reach, but consider all of the costs before making such a large financial commitment.