A vacation home can be a great way to improve an investment portfolio while getting the fringe benefits of having somewhere to stay when you just want to get away from it all. But a vacation home is also a delicate purchase because it's considered a luxury good. The benefits that homeowners enjoy with their primary residence simply aren't available when purchasing a second home. Here are a few financial tips to keep in mind before purchasing a vacation home.
Understanding the Taxes
Financing a home starts with understanding how much that home will cost year after year. The tax code was recently changed for all homeowners, lowering how much mortgage interest an owner was allowed to deduct. Now, instead of writing off the interest on up to a million dollars in mortgage debt, homeowners are only allowed to write off the first $750,000 worth of mortgage debt. Because second homes can raise one's level of debt significantly, this new law can end up adding more than owners realize.
Mortgage or Equity
A conventional mortgage is certainly one way to finance a vacation home. However, buyers can also take out an equity line of credit on their existing home or property as well. A conventional mortgage will be similar to that of a primary residence. Whether choosing a fixed- or adjustable-rate mortgage, hopeful buyers will be asked to put down a sizable down payment on a 15-, 20-, or 30-year mortgage.
However, a second home mortgage is typically more difficult to secure than a primary home mortgage. Lenders tend to be more cautious when it comes to extending mortgages for second or vacation homes than for primary homes. This is often why a buyer's financial details and credit history might be looked at in more detail than when applying for a primary mortgage. Buyers are sometimes asked to put down as much as 30% on their second home to secure the property.
If choosing a home equity line of credit (HELOC), the homeowner is essentially borrowing from the stake in their primary property. Buyers can use the liquidity from their primary mortgage to finance a second home. If choosing this option, owners have to be aware of the long-term interest rates when they make their decision. Because the rates of most HELOCs are variable, homeowners can't guarantee what their payments will be in five years.
Vacation home buyers in Erie CO can also try for a home equity loan, which gives the funds in one sum at a fixed rate. If the primary home has risen dramatically in the past few years, buyers can use this as leverage to get their second home at the rate they want.
Asking for Help
A tax accountant or attorney can help buyers understand what they can write off on a second home and what they can't—whether they decide to rent it out or not. Vacation homes are generally subject to full capital gains tax when they're sold, and a tax advisor can help buyers plan for that event throughout the course of their ownership. Because there's a lot of money to be made (and lost) on vacation homes, it makes sense to prepare at every step of the way.
Regardless of how an owner finances their vacation home, they need to at least be aware of all the potential possibilities. Studying up on everything from rental laws to capital gains to property taxes can make it easier to make smarter financial decisions both now and in the future.