Wednesday, January 31, 2007
Second Homes: What Should You Know
This is our second interview with Craig Venezia, a nationally recognized mortgage expert and the author of Buying a Second Home: Income Getaway Retirement from Nolo. In our previous interview we discussed issues that arose when co-buying a second home. In this interview we’ll focus on several issues involving the financing and the location of a second home.
Nolo: Craig let's start with the location. When making a decision about buying a second home some people buy locally and some people buy in a vacation area while others buy in a location where the house prices may be lower than where they are currently living. Can you give us any suggestions for where to look for a second home?
Craig Venezia: A general rule of thumb for where to buy your second home is to keep it within a two hour's drive away. The benefit of this is that it doesn't take you all weekend to get to your weekend getaway. And you also have to think about not just enjoying your home but also property management and upkeep issues and that's true for investors who are renting out their place full-time, people who are buying a weekend getaway, or the person that's going to be using it as a retirement. One interesting trend that we've been seeing is that a lot of people are actually buying second homes locally, either in the same town or a neighboring town. And what’s interesting about this is a lot of people who are buying for future investment are doing that because they like the town where they live, they know the area, they’ve established family and friend connections. They don’t want to leave the area but they also know that when they retire they don't need this big home so what they're doing is buying in the general area, renting out their places, and then, when they retire, five, ten, fifteen years down the road they will move into their current second home and make it their primary residence.
Nolo: Let's say that you're considering buying a second home in an area that you are not really familiar with what's the best way to start that process?
Craig Venezia: First and foremost I always say pick up the Yellow Pages or go online, find a local real estate agent. They are the ones that knew the towns where you'll be looking. This is particularly true if you're coming to an area where you have less familiarity and that is true too, if you've been to the area but you just vacationed for a week or two and then leave. You want to know the ins and outs of an area. Your best resource is to go to a real estate agent and work with them and learn as much as you can about the area.
Nolo: Okay let's talk about financing. It's often hard for buyers to acquire a first home let alone a second home is there any way to bypass the typical bank loan?
Craig Venezia: There certainly is. I strongly recommend private home loans. This is where the purchaser borrows money from a family member or even a friend, usually at a reduced rate compared to what you would get from a traditional loan. Both parties benefit from this arrangement. The borrower enjoys the flexibility and usually a lower interest rate than that of the traditional bank loan while the lender receives a higher return than a comparable investment such as a stock or bond may yield. Just keep in mind that this financing option is still a business transaction and should be treated that way. You want to have a local real estate attorney draft the loan and mortgage documents while making sure that all parties understand their obligations—for example, your parents can't foreclose on your house just because you were late arriving to their 50th wedding anniversary.
Nolo: Still with so many people struggling to buy a first home it seems like only the wealthy can get into the second home game.
Craig Venezia: It’s a common misconception that only the wealthy can afford to buy second homes. Actually many everyday people with middle incomes are doing it. I've seen beauticians, contractors, middle managers, everyday people you pass in a street, who can afford to buy a second home. You just need to be smart about how you do it. First and foremost you need to create a realistic affordable budget to make sure that you buy within your means. Also consider renting out your place for part of the year to help offset your expenses. Another alternative is. as we mentioned earlier. to do a joint purchase with another buyer or buyers. This works especially well for investment properties or even vacation homes. By lowering your debt burden, you can purchase a home you might not otherwise have been able to afford. It also has the added benefit of saving time and money on property management.
Nolo: Craig in your book you mention that many people are overpaying on their home mortgages. Can you explain that?
Craig Venezia: Mortgages are very a complicated animal and a lot of people wind up taking out mortgages that they honestly don't know what the cost involved is. And one of the key things that I've seen in people that I've talked with is that they could've gotten a better deal on their mortgage, they could've gotten a lower interest rate. If you got an interest rate that's just a quarter percent or half a percent lower, that could be tens of thousands of dollars in savings over the life of your loan. So now the question becomes, well, great how do I get this lower interest rate? Well the first thing you want to do is work with a reputable mortgage broker who's going to be able to be shopping for mortgages on your behalf. They will compare all the mortgage products within the portfolio of the lenders that they work with and come up with the best rate for you. Now keep in mind that ‘lowest interest rate’ doesn't always mean you're paying the lowest amount on your mortgage. And that's what happened with a lot of people who went into ARMS. An ARM is simply an adjustable rate mortgage. They went win for a lower rate which is usually a teaser rate, it starts off at a low rate and then after certain fixed period, it starts to adjust and suddenly that interest rate is significantly higher than if they had been locked into a fixed-rate mortgage. So the point is when you're looking at interest rates, you don’t want to look at just the percent but you want to try to evaluate. Where is this loan going to go over the course of the time I have it? Am I going to be paying the same interest-rate I’m paying ten years from now? I will, if I have a fixed-rate mortgage but if I have an adjustable rate mortgage, I'm probably not going to be paying the same rate and it's probably going to be higher. So what you really want to do is spend some time with the mortgage broker, really look over the different options that are available to you, and don't sign anything unless you fully understand what you're getting into.
Nolo: Craig one thing that surprised me when reading your book is that the owners of some second homes must pay sales tax. Can you explain how that works?
Craig Venezia: Sales-tax really is an issue that comes up with somebody that's renting out their property and renting it out for a short period of time, usually a vacation rental. So you’re renting it out for a week or two weeks at a time. Basically what that means is that there are some cities and some counties that impose sales taxes. And these taxes go by other names. They call them lodging, accommodations, hotel bed, tourist, transient occupancy taxes, a whole slew of names. But the reality is it's a sales tax on the rental income that you are taking in. You'll need to check and possibly register with your state's department of revenue to see if this is an issue that will impact you know depending on where you buy your property.
Nolo: Craig, can the buyer of a second home deduct the interest on the mortgage for that second home as well as deducting it on the main home?
Craig Venezia: Absolutely. As with your primary residence, you can deduct the interest you pay on your mortgage on your second home. And that interest adds up. Over the life of the loan you can pay tens of thousands of dollars in interest on that loan. And all of that interest is tax deductible on your second home.
Nolo: But can you really deduct all of the interest I thought there was a million-dollar limitation?
Craig Venezia: As with the IRS and looking at taxes, it's never quite a black-and-white situation. The reality is most people will in fact be able to deduct the full amount of the interest. Basically what happens is if all the mortgages on your home exceed the fair market value of your home or one million dollars, you may not be able to deduct the full amount of mortgage interest. Also if the equity in your second home is more than $100,000 you may not be able to fully deduct your mortgage interest. Your best bet with any tax situation is to certainly review it with your tax advisor to see what you can and can't deduct. But by and large most of us are not going to have mortgages that are a million dollars on our second homes, so we will be able to deduct the full amount mortgage interest.
Nolo: Craig thanks so much for speaking with us today. You've been listening to Craig Venezia a nationally recognized mortgage expert and the author of Buying a Second Home: Income Getaway Retirement. from Nolo