If a second home fits into your financial plan, it can be a rewarding way to accomplish your goals, providing income, years of memories and a legacy for your family.
Owning a second home outside the city with more space and amenities has long been a dream for many Americans. Today, as a result of the global COVID-19 pandemic, which led to cabin fever-inducing lockdowns and the rise of remote work and virtual schooling, a growing number of people are choosing to make that dream a reality.
In fact, the purchase of second homes is so prevalent that the trend is accelerating the current housing boom. In October, demand for second homes increased 100 percent over a year earlier, which was the fourth triple-digit increase in five months, according to Redfin1 data. The demand for second homes dwarfed the 50 percent increase in demand for primary homes.
“A lot of people, especially in metropolitan areas, are much more interested in second homes due to COVID,” says Angie O’Leary, head of wealth planning at RBC Wealth Management-U.S. “Friends who downsized and moved into downtown Minneapolis to get a more metropolitan experience are now looking to get out of downtown. A friend in San Francisco told me, ‘I’m buying a house because I will never be locked down in this apartment ever again. I want a yard, a pool, a street to walk on.’”
Even for those who wanted second homes before the pandemic, the ability to work remotely now makes the idea sweeter. O’Leary, for instance, was able to spend several months this year with her husband at their lake cabin in Minnesota. “The ability to work remotely allowed us the luxury of a lovely summer on the lake,” she says. “It was a blessing, something we never expected to get to do until retirement.”
But COVID won’t last forever, so before taking the leap to purchase your own second home, take time to think through your plans for the home, how to choose the right location and how you’ll pay for it.
Many Americans are shrinking their travel budgets and are instead using that money to purchase their own vacation homes where they plan to return again and again, O’Leary says. Some are looking for second homes as investments, where they can earn income through vacation rental sites like Airbnb. Other motivations include seeking second homes to build a family experience or family legacy at a property where kids and grandkids can gather year after year, or looking to split locations by season, maintaining a summer residence up north and a winter residence down south, for instance.
Before making a purchase, think through your reasons for getting a second home. The right home may check more than one box for you, but understanding your goals will help you select the right property and financing plan. Having clear expectations will also make it easier to enjoy your second home.
“What’s really important is that your second home fits within your financial plan,” O’Leary says. “Have a well-thought-out plan that allows you to successfully own a second home.”
The newfound freedom of remote work means you can buy a home on the beach in Florida or in the mountains of Colorado, but neither of those options may be the most practical for your situation. For instance, it might make more sense for you to buy a home closer to family, or in an area that’s close enough to drive for short weekend trips.
“Think about how often you want to use the home,” says Bill Ringham, director of private wealth strategies at RBC Wealth Management-U.S. “You’re a lot more likely to use a home that’s an hour away than eight hours away. And the further you live from the second home, the more likely you’ll need to hire someone to maintain it for you.”
If you plan to use the home to generate short-term rental income, think about which locations might draw more visitors. And if you hope to make the home a family experience, drawing kids and grandkids to gather, consider locations that are convenient to most of your family members. Finally, think about things like access to resources, services, and even reliable high-speed internet if you plan to work remotely.
There are various options you can select for financing your purchase, such as paying in cash, getting a mortgage, or using a securities-based line of credit (SBL). Current low rates make it easy to hold on to your cash and access credit inexpensively.
If you want to have instant liquidity on hand to make a quick purchase, especially in a competitive market for second homes, an SBL may be an option. A line of credit against your brokerage account, an SBL can often offer lower rates than a mortgage and limited underwriting, says Fred Rose, head of credit and liquidity solutions at RBC Wealth Management-U.S.
To qualify for an SBL, most borrowers need at least $100,000 in non-qualified assets. Lenders usually allow credit lines of 50-70 percent of the value of your equities and 60-90 percent of the value of bonds. For example, if you have $1 million in equities, you might be able to borrow up to $700,000, making it easy to quickly close on a $600,000 condo in Florida and later transfer it to a mortgage.
Unless you have a plan to pay off the SBL in the near term, such as with a mortgage, Rose doesn’t recommend borrowing up to the available amount. “If you’re planning to hold on to the line of credit for a long time, we recommend staying below 50 percent of your available borrowing capacity,” he says.
That’s because even though an SBL can offer flexibility and liquidity—since it’s based on market securities—the collateral is likely to fluctuate. “If the value of the securities goes down significantly and you’ve borrowed against them, you may have a collateral call,” Rose says, which may require you to pay down your loan or bring in additional assets to your account to stay within your loan’s required maintenance ratio.
An SBL can be a valuable bridge solution or partial financing solution for a second home, but “the best financing for homes over the long term is a mortgage,” Rose says. “It’s backed by the property, even if the property value goes down.”
Beyond the purchase price, don’t forget about the hidden costs of a second home. Your property taxes will depend on the state, but they may be higher than the taxes on primary homes because second homes don’t get the homestead tax exemption, Ringham explains.
“Take a look at the expenses on your primary house, such as utilities, insurance, taxes, and maintenance to get a basic idea of the costs of ownership,” he says. “But also consider new expenses; if you buy a lake property, for example, you may want a boat too.”
If you plan to make your second home a family legacy and leave it to children or grandchildren as part of your estate, you may also want to consider how you’ll prepare for future expenses. For instance, to make it easy to leave their lake cabin to their children, O’Leary and her husband plan to put the cabin in a trust and fund the trust to cover expenses for a number of years.
Considering such factors is an important part of planning for a second home. If a second home fits into your financial plan, it can be a rewarding way to accomplish your goals, providing income, years of memories and a legacy for your family.
Securities-based loans involve special risks and are not suitable for everyone. You should review the provisions of any agreement and related disclosures, and consult with your own independent tax and legal advisors about any questions you have prior to using securities-based loans or lines of credit. Additional restrictions may apply.
RBC Wealth Management, a division of RBC Capital Markets, LLC, is a registered Broker-Dealer, Member FINRA/NYSE/SIPC, and is not a bank. RBC Capital Markets, LLC, its affiliates and their employees do not provide tax or legal advice. Lending services may be offered by bank affiliates of RBC Wealth Management. RBC Wealth Management and/or your financial advisor may receive compensation in conjunction with offering or referring these services.
RBC Wealth Management, a division of RBC Capital Markets, LLC, Member NYSE/FINRA/SIPC.
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