Today I have a great post, brought to you by the Zillow Team.
When it comes to buying a home, advice is overwhelmingly centered on buying a primary residence. No big surprise since you need a place to live. But, before you invest in a primary residence, you need to consider your lifestyle goals to maximize your budget and your quality of life.
Where and How Do You Want To Live?
Conventional wisdom (and advice) says you must own a primary residence before you can own an investment property or vacation home, but this isn’t true.
For example, if you live and work in a city where home prices are much higher than in your favorite lake town getaway, you might choose to rent your primary residence and buy a lake house.
You can quickly search home prices in both target areas and compare buying costs of each with a mortgage calculator. If this initial math proves that it’s cheaper to rent where you live and buy where you want to vacation, the next step is to understand the implications of buying a home away from home.
Lifestyle Investing 101
There are three main reasons to invest in a home that’s not your primary residence.
- Cash flow from rental income, if you want or need it to offset ownership costs.
- Equity growth from the property appreciating over time.
- Lifestyle enhancement of using the property and maybe living there eventually. The lifestyle reason applies whether you rent or own your primary residence.
Property Use, Financing and Tax Options
You have three options when buying a home. Below are usage, financing and tax implications of each.
- Primary residence loans are for buying a home to live in, but after you live in the home for at least one year, primary residence loans allow you to rent the property. You can buy for as little as 3 percent down (if the loan doesn’t exceed $417,000). Mortgage rates are the lowest they can be and you get significant homeowner tax benefits.
- Second home loans are for buying a vacation home for personal use only. You can buy for as little as 20 percent down. Mortgage rates and tax benefits are the same as primary residences. But the fine print on most lenders’ second home loan agreements indicate you cannot rent out the home.
- Investment property loans are for buying a home you want to lease. These loans allow you to use the home when it’s not rented, and the rental income can help you qualify. Rates are 0.25 percent to 0.375 percent higher than second home rates (note that you must add this rate difference when using mortgage calculators), and while you can sometimes get a rental property loan with 20 percent down (if the loan doesn’t exceed $417,000), down payments often start at 30 percent. If rental income exceeds expenses each year, the income is taxable. If expenses exceed rental income, these losses can create lower taxable income each year, or the losses can accrue as an offset to capital gains taxes when you sell. Ask your tax advisor which one fits your profile.
How Do You Decide What’s Best For You?
To get proper advice on your lifestyle investing strategy, you’ll need to find a real estate agent and lender. Your real estate agent can help you find homes, clarify local transaction fees, taxes and commissions, and advise on local zoning and rental rules. Your lender can analyze your options to determine if you can afford to own in the city and the lakefront, if it’s better to rent in the city and buy in the cheaper lake town, and which loan option above fits your employment, budget, property usage and tax profile.