Overdraft fees and NSF fees are charged by banks in different situations: overdraft fees apply when transactions are processed despite insufficient funds, while NSF fees are imposed when transactions are denied due to a lack of funds. Both types of fees can be substantial, so understanding how to avoid them is crucial for managing your finances effectively.

Important considerations before buying a second home

While the second-home market boomed during the height of the pandemic, the current scenario is quite different, according to Redfin’s data analysis. Demand for mortgages for second homes is now at its lowest in seven years, primarily due to high housing costs and employers requiring workers to return to the office.

However, this reduced demand could benefit you in securing a second home. Less competition can lead to more bargaining power for buyers and a wider selection of properties.

Before you decide to purchase a second home, consider whether you’re prepared for the long-term responsibilities. Read on to learn more.

Full financial impact

As a second-home owner, you’ll shoulder double the financial responsibilities. For instance, if a sewer pipe in your primary residence breaks and shortly after, the HVAC system in your second home needs repair, you’ll face two substantial bills back-to-back.

Beyond unexpected mishaps, you’ll need to cover double the routine expenses, including:

  • Second mortgage payment (including homeowners insurance and property taxes)
  • Utilities
  • Upkeep
  • HOA fees (potentially)
  • Travel costs to get to the home
  • Rental management fees

Even if you can currently afford these costs, it’s crucial to keep your long-term financial goals in mind, says Daniel R. Hill, president and CEO of investment advisory firm D.R. Hill Wealth Strategies in Richmond, VA. Hill advises his clients to consider the following financial issues before purchasing another home:

  • Are you saving at least 15 percent of your current income for retirement?
  • Do you have an emergency cash fund with six to nine months’ worth of expenses readily available?
  • Are you free of credit card debt?
  • Is your primary home paid off?
  • If applicable, have you established a college fund for your children?

If you can affirmatively answer these questions, you may be in a better position to consider buying a vacation home, Hill says.

Financing options

As with any loan, banks will assess whether your income is sufficient to cover your costs, says Judith Corprew, executive vice president and chief compliance and risk officer at Patriot Bank in Stamford, Conn. Be prepared for a thorough review of your credit report, income, employment history, assets, and debts.

The process is similar to applying for your primary mortgage, though it may be quicker depending on the financing method you choose. Options include:

  • Second home mortgage
  • Home equity loan on your current home
  • Home equity line of credit (HELOC) on your current home
  • Cash-out refinance of your current mortgage

John Sweeney, founder and managing partner at Momentum Capital Partners in Boston, suggests that consolidating outstanding credit card or other high-interest debt into a lower payment using a HELOC or other low-interest products can improve your financial picture and make you more attractive to lenders.

Ability to travel to other destinations

After 10 summers in Clearwater Beach, Fla., the allure of warm Gulf waters might be overshadowed by the nuisance (and expense) of hurricane season. Similarly, a 10-hour scenic drive to a mountain cabin can eventually turn into a tiresome journey.

The question is: Do you want to commit to vacationing in one place for the long term? If your family absolutely loves the location, it might make sense. However, consider whether you’d prefer the flexibility to plan multiple trips to various destinations or stick with the same spot every summer (or every other weekend).

Renting out your second home

Collecting rent from your vacation property can be a smart way to offset expenses, but there are important regulations to consider before you buy. Zoning laws vary by state, city, and neighborhood, so what’s permissible in one area might be prohibited in another.

For instance, in New York City, renting out an apartment on Airbnb is illegal unless the permanent resident is living there or the rental is for more than 30 days.

For condominiums, it’s crucial to check if the condo bylaws allow for renters or short-term rentals like Airbnb. The same applies to homes in HOA neighborhoods, where some homeowners associations are actively working to restrict short-term rentals.

Landlords should also budget for cleaning services, insurance, and general maintenance. Since rental income isn’t guaranteed, ensure you can cover these costs, including the monthly mortgage payment, independently.

Additionally, you might need to sacrifice your desired time at the property to attract renters, which could diminish the appeal of owning a second home. For example, if you want to use the property during spring break but can command a rental fee that covers a significant portion of your property taxes, what will you choose?

“Unfortunately, the highest demand from renters is likely during the time you want to be there,” says Timothy Parker, managing partner at Regency Wealth Management in Ramsey, New Jersey. “When we analyze the numbers with clients, we often recommend renting a home for a week or a month instead of becoming a landlord. It’s usually cheaper and involves fewer hassles.”

Vacation home taxes

The IRS classifies a vacation home as either a personal residence or a rental property. If you rent it out for 14 days or fewer per year, it’s considered a personal residence. Renting it out for more than 14 days classifies it as a rental property. Generally, rental income must be reported regardless of classification.

The key difference lies in tax deductions: as a rental property, you can’t claim the mortgage interest tax deduction. However, you can deduct maintenance expenses and even claim losses if your expenses exceed rental income, reporting these losses on Schedule E of your Form 1040.

It’s crucial to consult a tax professional to understand your potential liabilities and deductions.

Long-term investment potential

Anyone who recalls the 2007 housing crisis knows that home values are not guaranteed. After the market peaked in 2006, home values dropped by 33 percent nationally during the Great Recession, erasing equity and leading to widespread foreclosures.

Many financial experts agree that residential real estate isn’t the ideal investment for individuals: it’s too illiquid, and its growth is too unpredictable. Therefore, a second home shouldn’t be the primary vehicle for retirement or other long-term savings goals. If you’re considering investing in property as a business, thoroughly research the local housing market to determine if the area has a solid track record as a desirable destination for vacationers and secondary-home buyers.

Reasons for owning a second home

Despite the effort and expense, there are several compelling reasons to buy a second home:

  • Diversify Your Investments: Owning a second home offers diversification beyond traditional stocks, bonds, and 401(k) plans. Real estate tends to appreciate over time and can serve as a valuable asset to pass on to heirs.
  • Potential to Move There Full-Time: A second home can eventually become your primary residence, saving you the hassle of finding a new location when you’re ready to retire.
  • Generate Passive Income: If your property is in an area with relaxed short-term rental laws, you can earn money by listing it on platforms like Airbnb or VRBO.
  • Host Family Reunions and Gatherings: A second home can be a perfect meeting point for friends and family to gather and unwind, providing a retreat from daily life stresses.

Should you buy a second home?

Owning a second home provides a vacation spot you can return to year after year, creating lasting memories. It can also be a valuable financial asset with the potential to increase your wealth over time if the home appreciates significantly.

“I’ve seen firsthand the value a second home can bring, especially in today’s market climate. Post-pandemic, with the market cooling down a bit, it’s a prime time to consider investing in a second property,” says seasoned real estate investor and licensed Colorado agent Brett Johnson of Denver-based New Era Homebuyers.

However, buying a second home comes with associated expenses, such as ongoing maintenance, upkeep, and property taxes. These expenses can strain your budget or limit your financial ability to travel elsewhere. “From my experience, it’s wise to ensure you can comfortably cover not only the mortgage but also ongoing maintenance and upkeep expenses,” Johnson advises.

If you’re considering buying a second home to rent out, think about the time and effort required to be a landlord and whether that’s a role you want to take on. Additionally, ensure that your desired area isn’t subject to local laws limiting short-term rental properties, like Airbnb-style rentals.

But don’t rule it out. “Exploring short-term rental options could be a savvy move for anyone eyeing a vacation home purchase,” says Johnson. “They can help offset the costs of owning a vacation home by generating rental income when you’re not using the property yourself.” He recommends using a management company to handle your rental, especially if you live far away. Although some companies may charge up to 40 percent of your rental revenue, if it covers the cost of upkeep, it can be worth it—and ensure the home stays in good shape when you want it, too.