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Second Home Vs Vacation Home

What Is Considered A Second Home

Second Home vs Investment Property Differences

It is crucial to understand what a second home is in terms of you potentially getting a loan. This is considered a home that is more than 50 miles from yours, and it must be a place you spend a significant portion of your time away from your primary residence. The key thing is that you use this home for a significant portion of the year, but you might also rent it out to other people. A second home can potentially be used for vacation purposes, but this is often not the case.

Is It Smart To Buy A Second Home An Rv Or A Boat

Filed under: Aware, Rightsized

Every summer my husband Thom and I rent a home in the mountains for a month. Then for a change of pace, we rent a cottage at the beach after that. Neither are fancy, but they are fun and comfortable. While I love my home in the desert southwest, it can be brutally hot during the summer, so escaping to somewhere cool when its scorching outside is a dream come true for me. And because weve rightsized, the cost fits easily into our budget.

But a question we always get is, Oh, are you staying at your second home? We happily answer No! Thats because when we visit these locations, we like to have the option of changing destinations and properties. Best of all, we like the freedom of not having to spend the time and money managing the property for the remainder of the year. These reasons and more prompted me to consider: is buying a second home, an RV or a boat SMART? Heres my answer.

Why A Second Home Is Usually Not A Good Investment

The real estate question is a no brainer. Thom and I both have been real estate brokers for over 30 years, so we have experience in this area. Although I mainly write about related issues, Thoms focus centers on commercial and investments. And although some people would like you to believe differently, a second home, an RV, or a boat are seldom good investments.

Is An RV The Way To Go?

What About A Boat?

The SMART AlternativeRENT!

Consequences Of Getting The Wrong Type Of Loan

Again, if you try to skirt the rules and apply for a second home loan even though you really plan to use a property for investment purposes, youve committed mortgage fraud. The potential penalties for mortgage fraud include fines and restitution to the lender.

Taking out a second home loan with the idea of using the residence as a vacation home, then later renting it out likely violates the mortgage terms. A lender who finds out youre violating the mortgage terms by renting out what you labeled as a second home might accelerate the entire loan amount. If you cant work out another option with the lender, youll have to repay the loan, or the lender will probably foreclose.

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Will My Children Enjoy The Property

Once you have children, real estate becomes more valuable. A vacation property is great if you have children who love going up. They will build fond memories and utilize the property more once they become adults.

However, if you dont have children, owning a vacation property really is a suboptimal use of money.

How Do You Know When Youre Ready To Buy A Second Home


Buying a second home is exciting step, especially if it can double as a personal getaway and an income-generating property.

Before you start scoping out vacation homes, though, you need to crunch the numbers.

Taking on a second property and mortgage are pretty big financial responsibilities, not just with your mortgage payment, but also the ongoing maintenance, insurance, property taxes. And all of that means a significant financial commitment, Adams said.

original sound homedotcom

You can run the numbers on your own using a home affordability calculator, which will allow you to see how much youre likely to qualify for based on your income and monthly debts, including the mortgage payment on your second home.

But youll also want to factor in non-debt expenses home maintenance costs and utilities on your primary residence, day-to-day costs for commuting and groceries, and other bills. Look closely at whether theres enough money left in your budget for another mortgage payment and housing-related expenses, such as homeowners insurance and property taxes, on a second home.

Consider the purchase in the context of your larger financial goals and responsibilities as well. Buying a second home should add to your quality of life and wealth creation strategy rather than put you in a pinch.

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How Should You Classify Your Property

Were not tax experts or lending experts, and you should definitely have conversations with qualified professionals before making any big financial decisions.

However, below are some main points that can give you a general idea of which classification might make the most sense for your property.

Financial Advantages of a Second Home

  • As we mentioned earlier, mortgage rates tend to be lower for second homes than investment properties.
  • Owners of a second home may be able to deduct mortgage interest on their income taxes.

Financial Advantages of an Investment Property

  • Owners of an investment property may be able to write off annual losses and depreciation on their taxes.
  • Owners of a second home may be able to write off expenses such as repairs, renovations, and marketing costs.

The classification that makes the most sense for your property will depend on how you are going to use it.

As this MoneyCrashers article points out, tax rules are complex and can vary based on other factors, including an owners other income:

As a consequence, sophisticated real estate owners frequently use a combination of legal entities trusts, C corporations, Sub-Chapter S elections, and limited liability companies to buy, manage, and sell their real estate assets. The owners typically engage in subsequent complex transactions between the entities to minimize legal and financial liability or maximize their personal tax benefits.

How Property Types Affect Your Taxes

So why does it matter if the IRS considers your property to be a second home or an investment property? Well, second homes are eligible for the coveted mortgage interest tax deduction, while investment properties are not.

However, as an owner of an investment property, you have your own unique tax benefits. You can deduct your mortgage interest from your rental income as a straightforward expense. And you can claim depreciation every year, which dramatically lowers your taxable rental income. Keep in mind, though, that youll likely have to pay depreciation recapture when you finally sell the property.

Learn more: Tax Tips for Rental Properties Rental Income and Deductions for Landlords

Whichever kind of property you own, youll want to keep a couple things in mind.First, you have to report your rental income to the IRS unless youre renting a second home for fewer than 15 days a year. For both property types, you can deduct maintenance expenses from your rental income.

Second, when youre deducting expenses from your rental income, you have to separate the time spent living in the home from time renting it. So, for example, if you rented it 25% of the year and lived in it the other 75%, you can deduct only 25% of your total maintenance expenses from your rental income.

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Does Homeowners Insurance Cover My Vacation Or Second Home

According to the Insurance Information Institute , vacation and second homes “present more of an insurance risk than your primary residence you don’t physically occupy your second home as frequently puts it in more danger for theft, vandalism and easily undetected damage, like burst water pipes,”

Because of this, it usually costs more to insure your second or vacation home than your primary residence. The price can be 10%-20% more than the homeowners insurance you have on your primary residence, depending on your insurance provider. Having an alarm or burglar system helps, as some companies offer homeowners discounts for them.

Your premium will increase if your second home or vacation home is located in a disaster-prone area where floods, tornadoes, hurricanes, earthquakes, mudslides, or wildfires may occur. Homes located in disaster-prone areas will have increased premiums because these types of events are not included in basic coverage and will need to be add-on riders.

How Close Are Essential Services

Second home mortgage VS Investment property mortgage. Whats the difference?

Its fun and adventurous to have a second home in a remote, natural spot, miles from the nearest town. Its not so fun when youre out of toilet paper, when youre out of gas or a family member needs to get to the emergency room. What about internet, electricity and running water?

Consider how comfortable you are being far away from essential services. And if you do build a remote second home, scope out these services right away, so in an emergency youll know where to go and how long it takes to get there.

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Second Home Vs Investment Property

Are you buying a second home, or are you making an investment?

This might be confusing, especially if youre thinking about occasionally renting out the property using it regularly for vacation, for example, but also making it available on Airbnb for some of the time youre not using the property and instead are living in your primary residence.

Earning some money from your property doesnt automatically make it an investment, however. Accurately defining the piece of property depends on how much time you spend in it.

Elliot Pepper, co-founder, certified financial planner and director of tax at Northbrook Financial in Baltimore says that you need to pay attention to what he calls the 14-day limit rule.

Very broadly speaking, if you personally live in your second home for 14 days or fewer or less than 10 percent of the days it is rented during a year, then it would be considered a rental property and the income earned would be taxable, Pepper says, but you would also deduct the expenses associated with the property.

On the flip side, if you use the property for more than 14 days or more than 10 percent of the time its rented, any rental income you receive isnt taxable, but you also cant deduct expenses, Pepper says.

In general, a second home is like a vacation home one you purchase for enjoyment purposes and live in during part of the year. In contrast, an investment property is one you plan to rent out with the goal of generating income.

Second Homes Or Vacation Homes For Brief Sojourns With Family

Many families invest in second homes to enjoy vacations in scenic locations whenever planned. Done up lavishly, with amenities that offer great luxury, such homes are typically in locations that brim with photo ready landscaping and sights. Occupation of these second homes varies from weekends, to vacations to fortnightly etc., and depends entirely on the time available.

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Get Preapproved For A Mortgage

Its important to start the financing process as soon as youre ready to start looking for a home for a couple of reasons. First, starting the process early will eliminate any financial obstacles during the closing process, which will help you close on time with no surprises.

Second, getting preapproved early will give you a better idea of how much you can finance for your home, which is helpful once you start shopping for houses.

You can shop around for local lenders or research options online. Rocket Mortgage® allows you to finance your second home completely online, with helpful tools to guide you through the process. The income verification process is also fast and easy since Rocket Mortgage® allows you to instantly verify your income with online documentation.

Irs Issues Guidance On 1031 Exchanges Of Vacation Properties & Second Homes

Second Home vs. Investment Property

The Internal Revenue Service issued Revenue Procedure 2008-16 in response to the Treasury Inspector General’s Report. The guidance provides specific safe harbor language that clarifies when your vacation home, second home or primary residence that was converted to investment property would be considered as “qualified use property” and therefore qualify for 1031 Exchange treatment pursuant to Section 1031 of the Internal Revenue Code.

Revenue Procedure 2008-16 Provides Safe Harbor Guidance

Revenue Procedure 2008-16, which is effective March 10, 2008, provides a number of safe harbor guidelines that would permit an investor to complete a 1031 Exchange of a vacation property or a second home. It is important to note that Rev. Proc. 2008-16 only provides safe harbor language. A 1031 Exchange of vacation property or a second home that falls outside of the safe harbor guidelines may still qualify for tax-deferred exchange treatment depending upon the circumstances.

Vacation Homes or Second Homes Held as Relinquished Properties

The sale of a vacation property or a second home will qualify for tax-deferred exchange treatment if the following safe harbor requirements have been met:

Vacation Homes or Second Homes Acquired as Like-Kind Replacement Property

The purchase of a vacation property or a second home will qualify as replacement property in a tax-deferred exchange transaction if the following safe harbor requirements are met:

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What About Tax Treatment Of Investment Properties

Since rental homes are treated as real estate investment, there is no limit as to how much interest you can write off. You report your investment income and expenses on Schedule E form which lets you deduct just about every expense that you incur in owning any investment property. Keep in mind, youll have to pay taxes on profits you earn on rental homes after expenses.

If you lose money on your rental home, you can use the loss to offset income from other real estate investment properties or claim up to $25K of the loss against other income. Bare in mind, youll need to have an Adjusted Gross Income of $100K or less to be able to fully claim this passive activity loss against your income. Since the ability to carry that loss forward goes down by $1 for every $2 of income over $100K and is completely phased out on incomes over $150K.

Second Homes Vs Investment Property

When taking out a mortgage loan, there are several different categories that the loan falls under, depending on what you intend to do with the home understanding the mortgage process will help you navigate the purchase of your second home or investment property easier. For a home that you intend to live in as your primary residence, this would be a primary home. For a home that you intend to live in for a portion of the year, but not the majority of the time, this would be a second home. And for a home that you do not intend to live in at all, but use to generate income, this would classify as an investment property. These distinctions are important, and we are going to go into detail on the key differences between second homes vs. investment properties, and what they mean for you.

Buying Second Homes

The most popular reason you may purchase a second home is for a vacation property. While you may think the home has to be in a destination, it does not. You can purchase a property anywhere in the united states to be used as a second home. The most popular places for second homes are lakes, beaches, ranches, or anywhere else you may like to kick back and relax.

Buying Investment Properties

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Taxes On Second Homes And Investment Property

Like primary residences, second homes with a mortgage can provide the owner with a tax deduction for the interest on the loan. Owners of second homes who rent them out part of the time may be able to reduce the amount of taxable rental income by deducting expenses for owning the home. To qualify for these deductions, the property must be rented at fair market value for more than 14 days or at least 10% of the total days rented per year.

Investment homes also offer a host of tax deduction opportunities. Owners can claim expenditures for mortgage interest, property taxes, insurance, maintenance, utilities and losses due to damage. They can also deduct a percentage of the propertys value each year due to depreciation.

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Do You Plan To Own Your Vacation Home Forever

According to the NAR survey, the average vacation property owner only plans to own his/her home for seven or eight years. Thats not a long enough time to withstand a potentially wrongly timed purchase and the ridiculously high 5% selling commission.

Forever is a very long time. But I say if you dont plan to own your vacation property for at least 20 years, I seriously wouldnt bother.

See: Enjoy Your Forever Home, It Likely Wont Last

How Banks And The Irs Define Vacation Homes

There are essentially two institutions whose definition of your property as either an investment property or a residence matters:

  • the bank that will be issuing your mortgage
  • the IRS, whose classification will determine what income, payments, and losses related to the property are taxable or deductible

First of all, if you never plan to rent your new property out or charge anyone to use it, the classification is simple: The property will automatically be considered a residence.

But if you plan to rent the property out for any amount of time, youll need to do a bit more research to understand how it will be classified.

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