4 Tips for Investing in a Vacation Home
As spring draws near, many “snowbird” investors, or people who have chosen to vacation in warmer destinations during the several months of the winter season, may be considering whether it’s finally time to purchase the vacation property of their dreams.
From calculating expenses to determining tax, insurance, and broader financial implications, it is critical to ensure a vacation home makes financial sense before diving head-first into a new oceanfront property.
Here are four things investors should do before buying a second home:
Calculate the expenses.
Consider all local taxes.
Plan for insurance coverage.
Gauge the impact on your investments.
Do the Math on Expenses
As with your primary home, vacation homes – from single-family homes on the beach to a condo in a high-rise building – come with significant ongoing expenses.
In addition to any renovations you choose to make up front, these may include periodic maintenance costs, homeowners association fees, security systems and other associated expenses that your lifestyle requires, such as country clubs or boat slips.
Given these can add up quickly, consider whether the time, effort and myriad expenses are worth the investment. Perhaps you would prefer to stay in your favorite high-end hotel or resort each time you visit the area, which would end up costing the same amount – or more likely, less – than maintaining a second home.
Another important factor to consider is that purchasing a vacation home often tethers you to that specific location, as you may feel a duty to visit it often given your significant investment in the property. This may keep you from using your resources to travel to other locales and enjoy more diverse cultures and experiences.
Consider the Tax Implications of the Location
There are many tax implications to understand based on whether you plan to rent out your home and where it is located.
For example, under the new tax law, if you plan to rent your home out 14 days or less each year, you do not need to report any rental income to the IRS. Once you rent your home beyond two weeks, however, you will be required to report all rental income and follow various rules on deducting rental expenses based on how much time you plan to spend at the property.
In addition, if you’re planning to purchase a home on the Jersey shore or Connecticut coastline, you’ll need to plan to pay some of the highest property tax rates in the country.
But if you purchase a home in a state like Florida, and plan to eventually retire there, you could be eligible for the state’s homestead exemption in the future. This enables people who report their primary residence in Florida (and spend at least 183 days there) to reduce the taxable value of their property. Keep in mind, if you still keep your property in your original home state, this will require meticulous record-keeping and regular coordination with a certified public accountant and attorney to ensure you are reporting correctly.
Don’t Forget to Factor Insurance
Vacation homes are often in high-risk areas that are prone to flooding, hurricanes or other disasters. Research what insurance you’ll need to protect yourself in case anything from a weather-related event or renter-inflicted damage occurs.
For example, a flood policy can become increasingly expensive based on the specific flood zone in which your home is located.
How Does the Home Fit in Your Long-Term Strategy?
If you are purchasing a vacation home with the intent to sell it for a profit down the road, be realistic about home prices and the potential for resale. Not every vacation destination experiences a booming real estate market each year.
In addition, if you’re expecting to offset a significant portion of your mortgage through rental income, make sure the location, size and amenities of your property will not only be a draw for tourists, but also demand an attractive rate. Working with a local real estate agent who is an expert on the area can help with this.
Finally, make sure that the purchase will not negatively impact your long-term investments, retirement savings strategy or other financial goals.
In the end, it’s important to consult with a team of advisors to weigh all of your options. Working with a financial advisor, coupled with an attorney and local real estate agent, will help ensure you’re ready, willing and able to purchase the vacation home of your dreams.