Should You Buy a Second Home First?
Own a Retreat While Renting a Primary Residence
Some aspiring homeowners who live in high-priced real estate markets are taking a surprising path. They're buying their second home while continuing to rent their primary residence. The purchase may be a place to escape for the weekend, a place to spend vacations, or a place to consider renting to others as a money-maker. But it’s also in keeping with the widespread belief that owning real estate is a sound investment.
"Property values have grown over time,” notes National Association of Realtors economist Lawrence Yun. “That price appreciation can provide equity for trade-up purchases” later in life. Even so, buying a home and continuing to rent may not necessarily be the right move for you. Before adopting this strategy, you should consider if the value exceeds the cost of a second home and if it is affordable. Weigh the pros and cons to determine if buying a second home is a sound investment.
If the value of your home is higher than the cost, you will be making money on your investment.
You can earn a nice profit from renting your home to others.
Your second home can be a place to spend weekends and vacations.
You will likely earn a profit from reselling your home.
If the house ends up costing more than its value, you will likely lose money on your investment.
You will need to pay additional bills and taxes.
You will have a second job as a landlord if you are renting your home to others.
You could lose money due to the poor resale value of your home.
Price Appreciation Potential
Purchasing a second home can be a wise investment, depending on the nature of the property. There’s a big difference in buying a house that needs work and putting in some sweat equity on the weekends versus buying a pristine place and sweating over where to place your chaise on the deck.
According to the U.S. Census Bureau, which released its 2013-2017 American Community Survey five-year estimate, approximately 76.7 million U.S. citizens own homes in the United States. The median cost of a home is $217,600, and the median monthly mortgage rate is $1,500.
Where you live makes a huge difference in terms of the cost to own a home. While residents in Idaho own homes with a median value of $207,100, in California homes cost approximately $509,400.
Trulia uses census data to compare price appreciation in vacation zip codes against nonvacation locales. In 2012 and 2013, year-over-year price appreciation in nonvacation areas was about three times that in vacation ones—6.6 percent for nonvacation areas in the final quarter of 2013, compared with 1.9 percent for those vacation areas. In other words, a home purchased in a city or suburb was likely to appreciate in value more quickly than a weekend place you might buy in a beach town or rural locale.
But since then, the gap has narrowed significantly, with vacation areas occasionally moving ahead. In December 2017, prices in vacation areas rose 5.2 percent year over year, compared to 5 percent in nonvacation locations. Looking ahead, Trulia forecasts a fairly even playing field in the values for both venues.
Can You Afford It?
It is important that home buyers understand the cost of owning a home. According to Mitchell Roschelle, a New York-based partner at the professional services firm PwC and a co-founder of its real estate advisory practice, "They look at the monthly payment and come up with some number for utilities that they would have paid if they were renting. They forget that the boiler is circa 1987, and they need to have one percent of the value of the home socked away because something is going to break."
If the rent for your primary residence—which is likely to escalate in the future—plus the costs of a second home require 50 percent of your income, the decision to purchase a second home does not make financial sense.
One way to keep the costs of your vacation place in check is to buy a property with a homeowners' association that takes care of predictable maintenance, such as lawn care and snow removal.
Also, note that buying a second home is likely to be more expensive than buying a first home. “From a lender’s perspective, it’s considered more risky. So, if you need a mortgage, the down-payment requirement will likely be a little higher, as will the interest rate on the loan—to the tune of 50 to 100 basis points," Yun says. The lender's reasoning is that if you fall on hard times and can't make payments, it’s easier to walk away from a place that isn’t your primary residence; after all, you’ll still have somewhere to live.
Will It Be a Moneymaker?
Airbnb and websites such as HomeAway make it easy for you to use or rent your vacation home year-round. According to Roschelle, “It’s like the American Dream on steroids. I’m not just going to own it, I’m going to turn it into a business.” Tread carefully, though. If you rent your home for less than 14 days a year, you don’t have to pay taxes on the money. More than that, though, and you’re entering a complicated world of taxation that requires clear and diligent record-keeping. You’ve also become a landlord, which can sometimes turns into a second job.
When considering buying a second home, you should also think about its resale value. One way to increase the resale potential is if your market could include not just vacation-home seekers but seniors seeking a place to relocate for their golden years. “I think the prospects for housing values are quite good, particularly for areas where you’re going to see a lot of retirees in the next few decades,” says Mark Zandi, chief economist at Moody’s Analytics.
If that’s a consideration, think about what an older person might want in a home, such as wide hallways and doorways, a master bedroom suite on the first floor, and an entry without stairs. You might not be able to capture all of these features, however, having some of them will appeal to this older segment of the market.
Renting a primary residence and buying a second home may be a good investment strategy for those who can find a desirable property at an affordable price. A second residence can provide you with a readily available vacation spot, as well as a steady revenue stream from renters. Should you decide to sell your property at some later date, you will need to make sure it has the proper value to attract buyers to make a nice profit.