It has never been easier for individuals to invest in the real estate market now that there’s an ability to rent properties on a short-term basis through companies like Airbnb or on a long-term basis using a local realtor. While you might be buying that lakefront property in Austin as an investment without knowing how you plan to use it, your lender will need to know whether your investment classifies as a second home or an investment so they can find the right product for you! Mortgage requirements, and even tax requirements, differ depending on the use of the property. So, how can you tell if that lakefront property is a second home or an investment property?
Definition of a Second Home:
A second home is commonly known as a vacation home because it is a a property you buy to use primarily as a vacation space for part of the year. For your property to qualify as a second home, it must meet the following criteria:
- The home must be occupied by the owner for at least a portion of the year.
- The home must be a one-unit dwelling (not a duplex, triplex, or quadplex).
- The home must be suitable for year-round use.
- The home cannot be rented full-time or operated under a timeshare arrangement.
- The property typically must be located at least 50 miles from your primary residence, but there are exceptions. For example, a second home can be within the 50-mile radius so long as the home is located in a unique area (for instance, lakefront, beachfront, or in a resort community).
Definition of an Investment Property:
An investment property is commonly known as a rental property, or a property that you are buying to rent out the entire year and earn income on. The purchaser must not stay in the property for any portion of the year. For your home purchase to qualify as an investment property, it must meet the following criteria:
- The home cannot be occupied by the owner for any portion of the year.
- The home can be a 1-4 unit dwelling.
- The property can be located anywhere in the United States.
- A property management company can manage the home.
Tax implications for a second home vs. investment property
When it comes to taxes, second homes and investment properties are treated very differently.
Second homes allow you to deduct 100% of the interest paid on your mortgage up to a loan limit of $750,000. However, if you have multiple properties, you can only deduct up to $750,000 in mortgage interest between them. The limit is not per property. Instead, it is a total deduction amount. You can also deduct property taxes up to a limit of $10,000 on your second home, and if you only rent your place out for 14 days or less, you can pocket the rental income tax-free! However, if you go over the 14-day exception, you must report all rental income (so if you are planning on renting your second home out for 15 days, you might net more money by only renting it out 14 days).
Investment properties are more akin to running a business. Owners may deduct any amount of mortgage interest, as well as certain expenses, including to following items:
- Property taxes
- Utilities
- Advertising costs
- Maintenance costs and supplies
- Insurance costs
- Depreciation
The differences between tax treatment of a second home and investment property can be large. It is recommended that any homeowner speak with an accountant prior to selecting a use category so you know exactly what to expect when filing returns.
How to Qualify for a Second Home or Investment Property Loan?
When a lender evaluates a borrower’s qualifications for a second home or investment property loan, the lender will look for the following criteria:
- A good-to-excellent credit score
- A down payment of at least 10%, however a down payment of 25% will give you access to the best possible rates.
- Enough money in liquid savings to cover the mortgage for a few months if need be.
For an investment property, a lender will also consider the projected rental income to qualify the borrower for a mortgage.
If you are interested in investing in real estate and want to know which type of home loan best suits your needs, LendFriend is here to help. We help thousands of investors navigate the home buying process. Give us a call at 512.881.5099 or apply now, and one of our loan officers will be in touch as soon as we receive the application.
