Millennials Are Using This Mortgage Hack To Buy Vacation Homes
Iâm not afraid to admit it: I dream of owning a cottage.
Iâd love to have a place to visit with my family where we could play outside all year round, with all the comforts of home.
Christmas? Weâll host at the cottage.
Motherâs day? Come to the cottage.
Visitors from out of town? Letâs spend the week at the cottage.
It works for almost every situation.
Sadly, however, cottages are expensive. And like most people in my 30-ish age bracket, I wonât be able to afford one anytime soon.
But thereâs a growing trend among millennials to hack the system and buy a vacation property anyway. Itâs not feasible to own a home and a vacation property, but some young people have found a way to work around mortgage affordability rules and afford a cottage just by renting their principal residence instead of buying.
Borrowing limits in place
It all hinges on the amount that mortgage lenders will let you borrow to buy a home. As a rule, the cost of owning a home can be no more than 39% of your gross income. Your mortgage payments, property taxes, heating costs and half of condo maintenance fees are counted as carrying costs. Even a family with a healthy $100,000 annual income will only be allowed to spend up to $3,250 per month on housing costs if they want to get a mortgage.
Rental expenses donât count
First-time homebuyer advantages apply
Another is the home buyerâs tax credit. This is a one-time $750 rebate on your income tax in the year after your home purchase.
Can I Use Rental Income To Pay For My Second Home Mortgage
Owning a second home may not be as expensive as it first appears. The reason: potential rental income.
Some homeowners defray their monthly mortgage expense by renting out their vacation home when theyre not using it.
The rise of Airbnb and similar services makes it easier for vacation home buyers to receive occasional rental income.
This practice is allowed by most lenders. Fannie Mae, the agency that creates rules for the majority of the nations mortgage loans, updated its stance on this issue.
While rental income cant be used to qualify for the loan, Fannie Mae now says lenders can consider a property a second home instead of an investment property even if rental income is detected.
Rental income cannot be used to qualify for a second home mortgage. But you can use rental income toward your mortgage payments once you own the home.
This is important. The rule may not come into play when you buy, but it most certainly will if you want to refinance in the future.
Second home mortgage rates are lower than those for rental and investment properties. And down payment requirements for second homes are more lenient.
Make sure the property meets all second home requirements to avoid paying higher interest rates now and on a refinance later.
Also note that, even though rental income wont affect loan eligibility, the income has tax implications.
Income Required For A Second Home
Debttoincome requirements depend on the size of your down payment and your credit score. Fannie Mae allows a DTI up to 45% with a 660 FICO and at least 25% down.
A 45% DTI simply means your total monthly payments add up to 45% of your gross income.
For example, if you make $10,000 per month before taxes, your total monthly debt payments could be a maximum of $4,500. That includes your primary mortgage payments, second mortgage payments, auto loans, and other ongoing debts.
Unlike investment properties, vacation homes have no rental income to offset the mortgage payment. You have to qualify with income from sources other than the property you are purchasing.
If youre buying a multiunit vacation home, most lenders will treat your purchase as an investment property, whether or not you plan to rent it out.
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Second Home Mortgage Qualification Calculator
Be sure you can afford a second-home mortgage. While some second homebuyers are fortunate enough to be able to purchase their vacation property in cash, most will need to qualify for a second-home.
What Is a Home Equity Line of Credit ? youre agreeing to get a second mortgage and pay the same amount of money every month. Usually youll be able to secure a loan equal to up to 85% of your homes equity. Of course, how.
Stop daydreaming about the second home youd love to have, and start making it a reality. Whether youre seeking a cozy cabin in the mountains, a getaway beach house, or a modern condo in your favorite big city, buying a second home is a big decision.
Is an Interest-Only Mortgage Ever a Good Idea? Second, only borrowers with an excellent credit score can qualify. mortgages are much riskier than traditional fixed-rate mortgages for several reasons. First, during the interest-only period, you.
letter of explanation for overdraft charges Writing the Perfect Letter of Explanation LinkedIn Writing the Perfect Letter of Explanation Published on April 22, 2015 april 22, Understand, Letters of Explanation only help Lenders make decisions for marginal applicants they are not going.
How much house can you afford? The home-loan industry has adopted new rules to qualify. /mortgage-calculator/debt-to-income-calculator. credit.about.com/library/calculators/bl_debttoincomeratiocalc.htm. .
Buying A Second Home To Rent
Buying a second home that will be used as a rental property comes with a number of advantages, most notable of which are the tax deductions. But on the flip side, it also means that a buyer will become a landlord and have certain responsibilities that will require time and energy. It is one thing having a second home that you only visit for yearly vacations, and it is an entirely different thing to have a second home that will be rented out.
As far as tax deductions are concerned, there are two conditions under which a property will be considered a second home. They are:
An example of these conditions being met is a second home that you rent out for 200 days in a year and live in for at least 20 days in the year. Meeting these conditions ensures that the house qualifies for a second home mortgage.
Considering that second home mortgages are usually easier to qualify for than investment property mortgages and come with lower interest, it is important for you to carefully evaluate all the criteria involved in meeting them.
Ready to buy a second home? Or maybe you want to purchase an investment property. You need to know the difference between the two, because getting a mortgage loan for one is usually a more complicated and costly process.
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Find Your Dream Second Home
Your agent can help you find your dream second home after youre approved or preapproved for a mortgage. Theyll work with you to find homes that fit your criteria and will show you homes that fit your budget and preferences.
Once youve found the home you want to buy, your agent will work with you to make an offer with the selling agent and negotiate any counteroffers. The next step begins once your offer is accepted.
How To Buy The Vacation Home You Just Stayed At
Youve returned from summer vacation so thrilled with where you stayed that youre considering buying a home there.
To justify the expense, you tell yourself that vacation homes can also be used as rental properties, providing income to fund your trip when youre not staying at the vacation home.
That may be true and will hopefully happen if you buy a second home, but before your tan and the thrill of possibly living part-time in a favorite vacation spot fades, there are some things you need to know about qualifying for a loan for a vacation home versus qualifying for a loan to buy an investment property thats used as rental property.
Both types of property may seem the same, but to lenders there are differences that set them apart. Here are some of them:
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Mortgages For Investment Properties
Investment properties usually require more stringent qualifications, higher down payments, and higher interest rates than second homes. This is because investment properties are considered higher-riskif you run into financial trouble, youre more likely to walk away from a home you dont live in than one you do.
Minimum Down Payment Required For A Second Home:
Regardless of the location, as long as the property youre purchasing is intended for family occupancy at one point throughout the year, the minimum down payment requirement is 5% for the first $500,000 and 10% for any value above $500,000 the same requirements as the down payment on a primary residence.
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Canadian Mortgage Affordability: Understanding Gds & Tds
American Mortgage Affordability: DTI Ratios
In the United States there are concepts called the front-end debt ratio and back-end debt ratio which compare the homebuyer’s income against their monthly housing expenses and their total debt service expenses.
Front-End Ratio: this figure compares your housing cost to your total monthly income. It covers mortgage principal & interest payments, property taxes, PMI, homeowner’s insurance & HOA. These costs are often called PITI.
Back-End Ratio: this figures everything included in your front-end ratio as well as your other monthly payments servicing your mandatory debt obligations.
Canadian Mortage Affordability
In Canada there are similar concepts to DTI where the Canada Mortage and Housing Corporation sets limits to protect homeowners from loans they are unlikely to afford paying. They ensure that both the housing and total cost of managing all debts with housing payments do not exceed practical levels.
What is Gross Debt Service Ratio?
GDS is similar to the front-end ratio in the U.S. except it also includes your heating expenses and the condo dues only count at 50%. In Canada the inclusion of heating expenses changes the accronym PITI to PITH. Add up those housing expenses and divide those by your monthly pre-tax income. A GDS of 32% or below is considered good. The GDS formula is published below.
GDS = 100 * ) / I
Where:
- Dn = required monthly debt payments
What are the GDS & TDS Limits?
Are the GDS & TDS Limits Hard Limits?
Tax Implications Of Buying A Vacation Home
The 2017 tax reform radically changed real estate taxes. In theory, mortgage interest and property taxes remain generally deductible for both primary residences and second homes but in practice, many people take the standard deduction instead of itemizing mortgage interest and property taxes. Without such deductions, the economics of ownership have changed.
To offset costs, vacation property owners may want to consider short-term overnight rentals through platforms such as Airbnb, FlipKey or HomeToGo, as well as in-season rentals through a local real estate broker.
According to the IRS: If you rent a dwelling unit to others that you also use as a residence, limitations may apply to the rental expenses you can deduct. Youre considered to use a dwelling unit as a residence if you use it for personal purposes during the tax year for more than the greater of: 1. 14 days, or 2. 10% of the total days you rent it to others at a fair rental price.
Translation: There are circumstances where rental money is not taxed in fact, it need not be reported. Speak with a tax professional for details.
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How Much Can I Borrow With A Second Mortgage
With your existing mortgage, you can borrow up to a combined 80% of your homes value with aHELOCor a home equity loan as a second mortgage. The maximum size of a HELOC on its own is 65% of your homes value. Forprivate mortgages, you may be able to borrow up to 95% of your homes value.
For example, lets say that your home is valued at $500,000, and you currently have a mortgage of $300,000. Since $300,000 is 60% of $500,000, your currentloan-to-value is 60%. Since you can borrow up to 80% with a HELOC or home equity loan, you can borrow an additional 20% . This will allow you to borrow an additional $100,000, which is 20% of $500,000.
However, if your current mortgage is small enough, you may face the maximum limit for an individual HELOC, which is 65%. For example, if your mortgage balance is $50,000 on a home valued at $500,000, then your current LTV is 10%. This would normally mean that you can borrow another 70% based on the 80% limit, but in this case you will only be able to borrow 65%, or $325,000.
The 80% limit for HELOCs is a maximum, but it doesnt mean that youre guaranteed to be approved to borrow up to this limit. Your HELOC lender may approve you for a lower limit based on your income or credit score.
What Are The Qualifying Criteria To Finance A Second Home
The qualification criteria for a second home purchase is the same as the criteria for purchasing your current home. Good credit is be a given, that is, a credit score above 650.
Standard qualifying criteria in Canada include the TDS and GDS calculations. TDS is the total debt service ratio. GDS is the gross Debt Service ratio. TDS is calculated using all of your payments divided by your income. GDS is calculated by using all of your payments for housing costs divided by your income.
When qualifying for a second home, lenders will use the TDS calculation. Lenders will calculate how much your total financial obligations are including your mortgage payments property taxes, all loan payments and credit card payments.
These payments will be divided by your income. As a guideline, the total payments you make can not exceed 44% of your income.
Because you are financing the purchase of a second home, lenders will not include rental income to offset any of the payments on the second home you are purchasing.
The TDS calculation is used to determine exactly how much mortgage you would qualify for based upon your income and your current monthly obligations including credit cards loans and other mortgages.
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Other Expenses To Plan For
Owning a second home comes with extra responsibility. Youll be maintaining two households, and that could cost more than you expect. So plan carefully.
Remember, affording a home is not the same as qualifying for a mortgage loan.
Mortgage underwriters only look at expenses for principal, interest, property taxes, insurance, and, if applicable, HOA dues. If these expenditures check out, they approve your loan.
You must consider travel costs, regular maintenance, repairs, utilities, furnishings, and household items. If the second home is far away, will you need to pay someone to maintain it for you?
You might be able to offset some or even all of these costs if you rent your home parttime. But second home mortgages require you to occupy the home at least part of the year.
You should be clear on the amount of time youre actually allowed to rent out the property if at all before banking on rental income to cover your homeownership costs.
Features And Benefits Of A Second/vacation Home Mortgage
Whether you’re looking for a second home that can be used for year-round enjoyment â or a cottage for weekend getaways â the RBC Vacation Home Mortgage could be the ideal solution for your borrowing needs.
The Borrowing Solution that’s Right for You
We understand that vacation properties are all different, and that your financing needs are unique. That’s why the RBC Vacation Home Mortgage gives you the flexibility to choose the specific mortgage features that work best for you.
Get Your Vacation Home Faster
The RBC Vacation Home Mortgage is Canada’s first mortgage solution that lets you finance up to 95%1 of the value of your vacation home. That means you could own your vacation home sooner than you think!
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Example Of A Client Who Purchased A Second Home For Her Aging Parents
Recently, a client was talking to me about his aging parents who lived in Saskatchewan. They were having some health related issues and he and his wife were spending a lot of time traveling back and forth.
After chatting with his parents and reviewing financing options with me, he decided to purchase a home around the corner from where he lived. He used the second residence program to pay for this home with 5% down.
His aging parents sold their home in Saskatchewan and moved to the new property around the corner from them in Calgary.Now he and his wife can drop over and help them out whenever they need.
He had a small mortgage on his own home and could have financed his home to get the cash out to purchase. However, he wanted to keep the expenses for this home separate from his own property. He and his brother were helping out his parents and they were splitting some of the costs.
Choose Your Down Payment And Loan Terms Wisely
For the more common fixed-rate mortgage, you can make payments on over the course of 30 or 15 years. It all depends on what you can afford to pay each month, though 15-year mortgages come with lower interest rates than their 30-year counterparts.
If youre purchasing your second home before you retire, a strong case can be made for the 30-year payment plan so there is less of a dent in your budget every month. However, youll pay more in interest with a 30-year mortgage than a 15-year mortgage. Keep in mind that qualifying for a second mortgage may require you to refinance your first mortgage to reduce the monthly payments on your first home.
Its also possible to take out a home equity loan and put it toward a down payment on a mortgage for your second home, which will decrease the mortgage amount on your second home. But giving up home equity has costs, since you wont be able to use that money to cover yourself in a financial emergency.
An increasing number of second-time homebuyers are buying homes using a lump sum of cash. If you go the mortgage route, though, the required down payment may be higher than what you put down the first time. In some cases, second mortgage down payments can be as low as the normal 20%, but others can call for down payments of 30% or higher.
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