How to Get a Mortgage for a Second Home

Owning a second home comes with a unique set of perks. Some buyers may simply opt for the perfect vacation home that serves as their personal getaway. Some may combine that luxury with extra income potential via short-term rentals. Others opt for an investment property that is designed to create a separate revenue stream.

Regardless of your goals, understanding how to finance your second home is crucial.

Mortgage lenders may be more demanding when you seek out a loan for a second property, especially if you’re already committed to a loan for your primary residence. You’ll likely have to show cash reserves, offer a sizable down payment, and demonstrate that the property in question can comfortably generate income.

Below, the team from Prevu Real Estate will cover a few essential steps buyers should consider before exploring finance options for a second home, including your options, how the property type may affect your loan and various ways to save for a down payment. 

What is a second home?

A second home is a property a person intends to occupy for a portion of the year, separate from their primary residence. These properties are often labeled into one of two categories - vacation home or investment property - depending on how they are used.

When it comes to getting a mortgage on a second house, the distinction is crucial. An investment property designed to generate income will have a higher risk factor for mortgage lenders to consider. A vacation home, while allowing for limited short-term rental, typically isn’t as scrutinized by lenders.

In general, a vacation home is intended primarily for personal use. To be considered as such, the property may not be within 50 miles of the owner’s primary residence. The owner must also occupy the property a minimum of 14 days out of the calendar year, or more than 10% of the time that the property is rented out, whichever is greater. You can opt to rent out your second home without worrying about stricter mortgage loan requirements as long as you abide by the above rule. 

On the other hand, an investment property is for property owners who want to invest in long-term rentals. The prerequisites for this type of property are mirrored compared to a vacation house. You can occupy the home for a maximum of 14 days while the property itself can be located within 50 miles of your primary home. If you’re considering the long-term rental route, you must be prepared to showcase a detailed income potential breakdown to your future lender.

How to determine what property you should buy

There’s a significant difference between owning an investment property and buying a second home, as management, tax implications, and financial requirements for mortgage approval all differ depending on what lane you pursue. 

The first thing to consider is management. Running an investment property significantly increases the owner's burden of maintenance and upkeep. Insurance, liability, and being available for renters’ needs can become a lot to handle for some buyers. 

If this is your first rodeo in any type of rental business, it may be worthwhile considering a vacation home, as you can still experiment with short-term renting and not have to worry about the implications of owning an investment property.

If you’ve been planning to invest in a long-term rental for a while, are ready to take on the property management duties that come with it, or simply aiming to "flip" a property for profit, you’ll be looking to get a loan for an investment property. 

Both properties will typically require a larger down payment than a primary residence. Specific mortgage options, such as government-backed loans, are not available for second properties - though there is a way to utilize them, which we’ll break down in the next section. 

Getting a mortgage on a second home

Securing a mortgage for a second house will often depend on whether the property is categorized as a vacation home or an investment property. 

Lenders assess these two types of properties under different risk profiles, which influences their requirements, interest rates, and terms on the home loans. For a vacation home primarily used for personal enjoyment with the possibility of short-term rental, lenders may offer more favorable terms. The reasoning is tied to the owner's likely personal attachment and commitment to maintaining the property, which lenders view as a lower risk than investment properties.

Investment properties, on the other hand, are scrutinized more rigorously by lenders. Since these properties are primarily aimed at generating income through long-term rentals, they carry a higher risk due to potential vacancies and the costs associated with tenant turnover and maintenance. Lenders may require a higher down payment for investment properties, often 20-30%, compared to vacation homes. 

Additionally, the interest rates for investment property loans are typically higher to offset the increased risk. Applicants must also demonstrate stronger financial reserves and the potential income the property could generate, often requiring a detailed rental income analysis or existing lease agreements.

If you’re considering a mortgage for a vacation home, the emphasis should be on boosting your financial health and examining the property's suitability for personal and short-term rental use. 

For investment property buyers, preparing a comprehensive business case that highlights the property's income potential and managing any perceived risks becomes paramount. Shop around with multiple lenders with expertise in financing second properties, as this can provide you with tailored advice and solutions that align with your goals.

How to save for a down payment on a second home

• Personal savings
• Cash-out refinance
• HELOC or home equity loan
• Selling valuable financial assets
• Gifts from family
• Proceeds from a home sale
• Diversifying your savings account
• Funds from retirement accounts
• Mix and match

The ability to afford a second home - amassing a down payment and closing costs for a second property - requires a strategic and multifaceted approach, especially considering the larger sums typically required. 

Below are explanations of the most common options that second home buyers choose to fund their purchases.

Personal savings

Building your savings through a disciplined budget and savings plan is foundational. Allocate a portion of your income specifically for the down payment, and consider automating transfers to a dedicated savings account to streamline the process.

Cash-out refinance

If you have substantial equity in your primary residence, you can consider a cash-out refinance. This means refinancing your existing mortgage into a new loan that is larger than what you currently owe, allowing you to take the difference in cash. This cash can then be used as a down payment for a second house. While this method can unlock equity in your home, it's essential to consider the new loan's terms, rates, and impact on your monthly mortgage payment.

HELOC or home equity loan

A home equity line of credit (HELOC) is another option for leveraging your existing equity, providing you with a line of credit based on a portion of your home's equity. It offers flexibility in accessing funds and can help secure the down payment for a second property. A home equity loan functions similarly, drawing on your existing equity as an entire lump sum.

Selling valuable financial assets

If you own assets that can be liquidated without significantly impacting your lifestyle or financial stability, selling them can quickly boost your down payment fund. This might include a secondary vehicle, stocks, or other financial  investments.

Gifts from family

Financial gifts from family members can also contribute to your down payment. Many lenders accept gifts as part of the down payment, provided they come with a letter stating the money is a gift, not a loan.

Proceeds from a home sale

If you own another property you're considering selling, the proceeds from that sale can significantly contribute to the necessary funds for the new property.

Diversifying your savings account

Placing your savings in a high-yield savings account or a short-term certificate of deposit can help your down payment grow faster. These accounts offer higher interest rates than traditional savings accounts, though it's important to be mindful of any restrictions on access to funds.

Funds from retirement accounts

You have two options if you want to pursue this route: You can "borrow" money from your retirement account, which you eventually pay back with interest, or directly withdraw cash for immediate use (depending on your account.) An immediate withdrawal, however, can result in specific tax implications and penalties, so always consult with your financial advisor to ensure you understand the impact.

Mix and match

Utilizing every available resource and strategy can expedite the process of saving for a down payment. Combining personal savings, asset sales, financial gifts, and other methods can help you assemble the required funds more quickly.

When thinking about purchasing a second home and evaluating how to fund your down payment, be sure to speak to your mortgage lender, financial advisor, and / or tax accountant in advance to create a plan that factors in the specific of your individual financial situation.