Are you thinking about buying a second home?
Thinking about buying a second home? You are certainly not alone. According to data from the National Association of Home Builders (NAHB), roughly 7.4 million homes were second houses in 2016 which is about 5.6 percent of the total housing stock.
When it comes to second homes, not all states are created equal. Florida is the number state for second homes with roughly 1.1 million vacation homes being located there. Other major states for second homes are California, New York, Texas, Michigan, North Carolina, Arizona and Pennsylvania.
While a second home sounds like a great idea (and it often is) there are both additional responsibilities and expenses that come with owning a second house. You need to consider additional costs such as homeowners insurance and property taxes as well as other considerations such as the ability to rent it out to help cover the costs.
Here are just a few things to think about before buying a second home:
Get Your Finances in Order
A second home comes with a ton of financial responsibilities that will all fall to you and before you close on your vacation home you should be certain you can handle the money issues that come with your new home.
Will you be able to cover large repair bills in both your main home and your second house if they happen within a few months of each other? Imagine your HVAC system needs to be replaced in your main home and a few months later a water leak does some major damage in your vacation home. Will you be able to handle these types of expenses? If the answer is no, you may not be ready for a second house.
In addition to major repairs, you need to consider additional costs such as homeowners insurance, property taxes, flood insurance (if necessary), HOA fees and assessments, as well as general maintenance costs. Insurance costs can be shockingly high if your vacation home is located oceanfront, near water or in a high flood risk area.
It always pays to have your financial ducks in a row before buying a vacation home. Most experts recommend that you have the following in place before you consider another house:
- You are saving at least 15 percent of your income for retirement
- You have six months of expenses in an emergency fund that is readily available
- You have paid off all credit card debt
- If you have children, make sure you have started and are funding a college fund
Do You Need a Second Mortgage?
If you are still paying off your main home you will more than likely need a second mortgage to purchase a vacation home. If you are in need of another mortgage here are a couple of things to consider:
- Can You Afford it: This is a big one, make sure you can comfortably afford your second mortgage and that it will not leave you second house poor. If you can just barely afford the second mortgage you should wait awhile before you think about a vacation home. Not being able to eat out, go on vacation or splurge once in a while can quickly turn your second home into a burden.
- Do You Qualify: Mortgage lenders will take a detailed look at your finances to make sure you can afford to cover your second mortgage. Before applying, make sure you have reviewed your credit report, have all of your income and employment history information ready to go and it is sufficient to qualify for a second mortgage.
- Consider Other Costs: While you may be able to comfortably cover the cost of the mortgage, these are not the only expenses a second home brings. Insurance can be a major expense if your home is located near the ocean, in a forest or in a high-risk flood area. Always get an insurance quote on any property you are considering so there are no surprises. Also consider utilities, lawn maintenance, snow removal, HOA fees and general maintenance.
Vacation Homes and Taxes
Your vacation home will come with tax responsibilities and depending on whether you rent it or not will determine what classification you fall into. The IRS considers vacation homes either a personal residence or a rental. Once you rent your property more than 14 days in a year it is considered a rental and you will no longer be able to claim your mortgage interest as a tax deduction.
While you lose your interest deduction you can claim losses on your rental property if the loss amount exceeds your rental income for the year. Always check with your accountant or a tax professional about the tax ramifications of renting your property out.
Vacations May be Limited
If your second home pushes your budget to the limit, you may find that all of your vacations are spent at your second house. While this may sound great at first, after a few years of only spending time at your vacation home you may want a change.
Before buying a second home give some serious thought as to how you like to vacation. Many people love returning to the same place year after year and if that describes you a vacation home is probably a great idea. If you like to travel and explore new areas, a vacation home may make your away time feel restricted.
Do You Need/Want to Rent it Out
Renting out your second home when you are not there is a great way to help pay the mortgage but there can be problems as laws can vary from county to county. If you need to rent your vacation home be sure to check into all of the local laws regarding short term rentals before you decide on a location.
Some counties require a license to rent your property while others may outlaw it altogether or limit the number of days you can rent it per month. In some cities (New York is an example) you can’t rent a property for less than 30 days making short term rentals almost impossible. Always check on and follow local laws and requirements when renting out your property.
Second Homes are not Always a Great Investment
There are no guarantees when it comes to property investment and that holds true for second homes. It is never a great idea to buy a second home assuming it will only rise in value. Housing crashes do occur and areas where vacation homes are popular are often some of the first areas to be hit.
If you are hoping to build wealth via a vacation home there are probably better ways to invest your money. A vacation home should be considered an asset that you intend to hang onto for a fairly long time and use to make memories, not make money.