Buying a Second Home
It's vacation time and -- whether you're hitting mountain, beach, lake, or island -- the thought will probably cross your mind, "Wouldn't it be nice to have a second home right here in paradise?" But while you're taking in that view, remember there are plenty of financial considerations involved when purchasing a vacation property.
To clarify the ins and outs of getting a home away from home, THAT MONEY SHOW's Betsy Karetnick interviewed Elizabeth Razzi, Assistant Editor of KIPPLINGER'S PERSONAL FINANCE magazine. Following is an edited version of their discussion.
Karetnick: When we're thinking of buying a second home, is that type of investment comparable to buying stocks or bonds?
Razzi: It's not like a stock or a bond in that homes don't usually appreciate or depreciate as quickly, and it can be very difficult to sell, especially in a down market. But a lot of people are turning toward second homes as an alternative to stocks and bonds to escape the insecurities of the current market.
Karetnick: When we're thinking about making the decision to buy a second home, what do we need to keep in mind?
Razzi: We need to remember that it really is a house, and that it will have the same rewards -- and challenges -- as your main residence. A lot of people are thinking about it as a trial run on a retirement home, so they really need to get to know the neighborhood and the neighbors, exactly as they should when looking for their primary residence.
Karetnick: Is location still the golden rule?
Razzi: Absolutely. Location drives real estate all the time, and is especially important in a vacation home market. You want to look at the proximity to lakes, mountains, and beaches, of course, but many people don't consider access to good health care facilities, access to a library, and good public transportation. That will be important both to your needs, and to the needs of anyone who may buy the home from you in the future. It's always important to think of resale value.
Karetnick: What about tax implications? Many poeple think they can buy a vacation home and pay for it by renting it out part of the time.
Razzi: Tax considerations are very important in making a real estate decision. Especially when considering a big investment, many people think they can pay the mortgage by renting out the home. That seldom works out as well as they expect it to. Renters can help you take a big load off the cost of buying a vacation home, but they will almost never cover your mortgage in full.
Karetnick: So what do we need to know if we're preparing to buy a place and rent it out for part of the year?
Razzi: You need to think about how much you'll want to use the home. If you're going to make it mostly your vacation home, you can rent it out for two weeks without paying any tax on that rent, no matter how high the rent goes. That's a great tax break. But if you're thinking of trying to maximize the tax breaks, and maximize your rental income, you'll have to pay very close attention to the tax laws and limit your stays there to no more than fourteen days. You can get around that a little bit by claiming maintenance days. The tax law will allow you to spend more than those two weeks there if you claim they're necessary for fix-ups and repairs, but then they'll want to see receipts from the hardware store to justify the extra time.
Based on the amount of rental income, you can take tax breaks against that rent for the depreciation of the house, the interest you pay, your taxes, and for any upkeep and management fees you have to pay. The rules get more complicated if you're running at a loss and the rent doesn't cover your costs. Up to a certain point you can deduct that from your regular income, but you have to keep very careful records, and you should probably consult a tax advisor on how to do it properly.
Karetnick: Are timeshares a good idea? What are the ups and downs?
Razzi: A timeshare can be a great way to go on a vacation, especially if it's at your favorite resort and you know you'll want to go there frequently for many years. But they are usually very poor financial performers, and should never be considered as investments.
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