Should You Refinance to Buy a Vacation Home?
Published on 24th September 2014, 18:06
A spot with the beautiful tranquility of the mountains or the ocean outside your front door can be just the weekend re-charge you need in your life, but coming up with the money to finance or buy a vacation homeisn’t easy.
If you don’t have cash on hand to buy a second home outright, refinancing your primary residence might help you get the cash flow you need.
Just make sure you know the finer points before you start building your new skiwear or swimwear collection.
The Refinancing Process
In order to get the funds you need for your vacation home, you’ll have to do a cash-out refinance loan. This means taking on a new mortgage which is greater than the amount you currently owe on your house.
You’ll keep the difference between the amount you owe on your original mortgage and the amount of your new loan, which you can use to buy—or put a down payment on—a vacation home.
Remember, when you refinance, you are applying for a whole new loan. That means going through the mortgage process again, complete with credit checks, income verification and debt-to-income ratio evaluation, all of which will affect your new interest rate.
Plus, you’ll have to pay closing costs.
Is it possible?
Just because you have a home does not mean you have the option of refinancing it. Several factors can make you ineligible to refinance:
- Bad credit
- Having owned your primary home for less than 12 months
- A poor debt-to-income ratio
- A poor loan-to-value ratio (you want to have yours at 80%, at least)
To help you land your dream vacation home, try a pre-approval service like the one featured on the realtor.com® individual listings page.
By checking the box that says, “I want to get pre-approved by a lender” you’ll be connected with up to three lenders right away.
Consider Taxes When Buying a Vacation Home
How you choose to use your vacation home can affect your taxes, which may make juggling two properties more difficult.
For example, if you only plan on the occasional weekend away, it may seem like a good idea to rent out your vacation home part of the year.
However, under the tax rules for rented properties, if you use your second home as a rental, you’ll only be able to say in the home 14 days—or 10% of the total days the property is rented out.
If you would rather use it as a personal residence, a special tax rule allows you to rent out the home for 14 days without having to report that income to the IRS.
This could be a good idea to help with all those new monthly expenses.
Other Considerations Before Buying a Vacation Home
A vacation home is a big investment, and refinancing isn’t cheap. Lenders are more cautious about risking money for second home mortgages, so don’t be surprised if the loan for your vacation home isn’t as good as the deal for your first mortgage.
But that’s not all you should be ready for.
Follow these tips so you won’t get caught off guard:
- Get a thorough inspection done. If the home was used as a vacation destination previously, the owner may not have kept it up-to-date.
- It’s a good idea to only refinance if you can get a lower interest rate. That way, you will free up extra cash you can use to fund your vacation home’s mortgage and down payment.
- Since this is your second mortgage, your debt-to-income ratio should generally be capped at 36%.
- You will probably need a down payment of 20% to 35% for conventional mortgages—and even higher for luxury homes.
- Interest rates for a second home can be a bit higher than those for primary home purchases.
- Unless you buy the vacation home outright, you will need enough money to cover the mortgageson two homes. Make sure you have enough monthly income to do so.
