The number of people signing second home mortgages skyrocketed by a record 128% year over year in the spring of 2021.1 Remote work models that allow more employees to live nearly anywhere have pushed their popularity. Low mortgage rates have also contributed. Plus, real estate remains a viable investment opportunity, second homes fit into some long-term retirement plans and, of course, they remain an appealing vacation option.
Still, buying another property is a large financial move that shouldn’t be rushed. This checklist provides key factors to consider — ideally in partnership with your financial planning partner — before taking the step into second homeownership.
Understand all the costs
A second home also means a second set of home expenses, including mortgage, property tax, maintenance and utilities. Some expenses, like homeowners insurance, might even cost more than for a primary residence. Vacation homes (versus resales or rentals) typically also require furniture, appliances, and other home essentials and amenities. Experts also recommend creating a separate emergency fund just for your second home.
Estimating the costs of a second home can help you evaluate its impact on your financial plan. For instance, can you continue funding your retirement accounts at the same rate? Will you need to revise other goals — for instance, saving less each month, extending a timeline or eliminating a goal altogether?
Understand the real income potential
When a second home is intended to be a rental property, the goal is often to generate enough income to net a profit after expenses. Understanding the potential for a property to achieve this goal means understanding the local rental market. For instance, how large is the potential renter audience? Are area rental prices high enough to meet your income goals without pricing?
Additional costs to factor into a profit calculation may include extra maintenance (renters may not treat your home with care), advertising and, if you choose, a management company. On the income side, realize that properties may sometimes sit empty, particularly in a seasonal vacation destination, such as a ski resort. You may need financial reserves to cover costs during these times.
It may also make sense to consider in advance what you’ll do with the rental income you do get and how it can support your overall financial picture. For instance, should it go toward retirement savings or another specific goal?
Estimate the ROI
For a resale property, it’s wise to work with a real estate agent to understand average market values for the area as well as potential resale value. This can help determine what type of property fits your budget and what you might expect to gain from a resale.
Consider when you anticipate selling the property, whether it’s as soon as possible or after you’ve used it as a vacation or rental home for several years. As with a rental property, think about how you’ll direct profits from the sale to support your financial objectives.
Consider payment options
Doing a cost-benefits analysis can help you decide whether cash, financing or a combination is the best way to pay for a second home. For instance, you could compare the cost of liquidating stocks and incurring capital gains liability against the cost of mortgage interest rates and closing costs. Or compare the opportunity cost of using cash-equivalent assets against the mortgage.
Bear in mind that mortgage qualifications for a second home tend to be more stringent than for a primary residence. For instance, lenders may look for a higher credit score or larger down payment. And if you have an existing mortgage on your first home, that may make it harder to meet debt-to-income ratio requirements.
Leveraging equity is another option that could help finance a down payment or potentially the full purchase amount. This can mean using either your home or a group of marketable securities as collateral for a loan.
Final thoughts and next steps
As you consider a second home purchase, it may be helpful to also consider how it might impact your tax situation and your estate plan. Your Hancock Whitney team can assist you in determining what you can afford and discuss how a second home purchase can fit into your overall financial plan.
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1“Second home purchases are up 128% year over year. Should you buy a second home now?” Maurie Backman, The Ascent, updated July 19, 2021, https://www.fool.com/the-ascent/mortgages/articles/second-home-purchases-are-up-128-year-over-year-should-you-buy-a-second-home-now/, accessed Dec. 20, 2021
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