Owning a second home may sound like something only the wildly rich do, but that isn't always so. Sometimes people buy a new house when they haven't had success selling the first. Other homeowners might like the idea of buying a second home to fix up and sell at a fat profit – or to rent out.
For the right individual, two homes may be a great plan. But for the wrong homeowner, plenty can go awry. If you're thinking of getting a second mortgage for practical or profitable reasons, now is a good time to have second thoughts, because...
1. You need to have
plenty of money. You don't have to belong to the 1 percent to pull
this off, but for a bank to allow you to purchase a second home without plans
to sell the first, you can't be just getting by, hoping a second house will fix
your financial picture.
"Underwriters will want to know you have significant reserves – potentially a buffer worth six months of payments on both properties – before approving the loan," says Brian Seibert president of Michigan First Mortgage in Waterford, Michigan.
And while every lender will be different, as a general rule, you'll need to pay a higher down payment for a second home than you would a first.
2. You shouldn't have too much debt. You're taking on more debt when you buy a second home – something lenders take into account.
In most cases, the debt ratio can be 36 percent to 42 percent. That means, of course, that your debt – including mortgages, credit card debt, car loans and student loans – shouldn't exceed that 36 to 42 percent.
Of course, if you're planning to offset some of that debt by bringing in monthly rental income from your second home, mention that to your lender, Markowitz says.
Renting out a home certainly lowers the risk of being rejected by a mortgage lender ... the general rule of thumb is to provide as much reassurance as possible.
3. You have to spend money to make money. It isn't just that you'll need a hefty down payment. Your monthly mortgage may well be higher than it would be if you just had one home.
Investors are viewed by banks as riskier customers; they are often subjected to higher interest rates. To avoid financing issues, many investors use cash financing or existing lines of credit to purchase investments."
You are also going to be maintaining two homes. You thought it was hard to make sure the bushes were trimmed for one house? Now, you get to double the fun.
Most people grossly underestimate the carrying costs of the investment in real estate. It's more than just taxes and insurance. Consider this scenario: Eventually – assuming you are hanging onto the second house and not selling it soon – you'll have two roofs to replace, two homes to paint and twice as many appliances, such as hot water heaters and refrigerators, to purchase, she says.
If you're spending money and losing money on the house but are truly looking at the property as a long-term investment, it may not matter to you to do that for a while, Duffy says. Some homeowners "are happy to take a loss on a property in the short term, and build up equity for a future period, such as retirement."
4. The buyers and renters may not come. Just because you have grand plans of renting out or selling a second home doesn't mean things will work out that way. If you're investing money into fixing up a property, that takes time – time that translates into money, Duffy says.
"Every day that an investment property sits empty means a loss in profitability to an investor," she says. "All repairs and renovations must be completed quickly in order to have the fastest turnaround ... Even with quality contractors, investors typically spend a significant amount of time working on houses, selecting paints and flooring, purchasing appliances or attending to the other details required to transform a home."
Even if you bought a fixer-upper that's all fixed up, you have to hope a renter or seller signs on the dotted line as soon as possible. And then, if you're renting the place, you have to hope your tenant sticks around.
"Personally, I don't recommend that my clients rely on sources of income that could suddenly stop. You have to be comfortable that if the property is not rented out, you'll still be on solid footing," says Kurt Fillmore, president of Wealth Trac Financial Group in Southfield, Michigan. (And back to the having-plenty-of-money point – Fillmore recommends having six months of emergency funds to cover the mortgages of both houses, in case something goes wrong.)
5. All of this is harder than it looks. Even if you sell or rent out a second home fairly quickly, you could have plenty go wrong later.
Real estate, even on a small scale, should be seen as another job or career. While it may be the right fit for some, it's not for everyone.
It gets even harder if you're trying to flip houses and are solely thinking of them as investments. You should "understand the tax implications of short-term gains and non-primary-residence sales.
Buying a second house unless you are a real estate developer: "I would warn the average person not to get involved unless they have a unique expertise."