It’s not an easy time to be a first-time homebuyer — particularly if you live in a place where the inventory of starter homes is low, down-payment requirements are high, and real estate prices are above average. That includes pricey locales like New York, Silicon Valley, and Miami, but even midsize and small cities like Stamford, CT, Providence, RI, and Lansing, MI can be tough for buyers.
But that doesn’t shake the desire to put down roots.
So some denizens of these high-priced areas are taking a surprising path to homeownership: Buying their “second homes” while continuing to rent their primary residence. The purchase may be a place to escape for the weekends, a place you spend vacations, or a place you consider renting to others as a money-maker. But it’s also in keeping with the widespread belief that owning real estate is a sound investment.
“When you look at it, every generation has tried to accumulate wealth through property ownership,” says Mitchell Roschelle, PwC Partner and one of the founders of its real estate advisory practice. “The greatest thing about homeownership is if you own it long enough to pay it off, you’ve accumulated wealth.” That “forced savings,” she says, is an asset you can draw on for retirement, later life, or other goals.
But that doesn’t mean that buying a vacation home while you’re still renting is necessarily the right move for you.
Here are some things you need to consider.
The Real Estate Rationale
There is an argument to be made for investing in real estate, says Mark Zandi, chief economist at Moody’s Analytics. “After the bust, no one would touch single-family homes except the vultures,” he says. “But in the last year or two, more and more people are interested in residential real estate as a way to make some money… Real estate feels like it’s coming back.” National Association of Realtors economist Lawrence Yun concurs.
“Property ownership has, over the long haul, provided wealth accumulation, because property values have grown over time,” he says. “That price appreciation can provide equity for trade-up purchases.”
Price Appreciation Potential
All real estate is, of course, local. There’s also a big difference in buying a fixer-upper — and putting in some sweat equity on the weekends — versus buying a pristine place and sweating over where to place your chaise on the deck.
But it also pays to look at what prices are likely to do in the vacation-oriented areas. Trulia uses census data to compare price appreciation in vacation zip codes against non-vacation ones. In 2012 and 2013, year-over-year price appreciation in non-vacation areas was about three times that in vacation ones (6.6 percent for non-vacation areas in the final quarter of 2013, compared with 1.9 percent for those vacation areas). In other words, a home purchased in a city or suburb was likely to appreciate in value more quickly than a weekend place you might buy in a beach town or rural locale.
But over the past few years, the gap has narrowed significantly, with vacation areas occasionally moving ahead. Last December, prices in vacation areas rose 5.2 percent year-over-year, compared to 5 percent in non-vacation ones.
Looking ahead, Trulia forecasts a fairly even playing field.
The Cost of Owning
It’s also important to understand that buying a second home is likely to cost you a little more than buying a first. The down payment requirement will likely be a little higher, as will the interest rate on a mortgage — to the tune of 50 to 100 basis points, according to Yun. “From a lender’s perspective, it’s considered more risky,” he explains. That’s because, if a home isn’t your primary residence and you fall on hard times, it’s easier to walk away, because you’ll still have somewhere to live.
Can You Afford It?
This is the big question, and it’s one that’s easy to get wrong. The biggest mistake first-time homebuyers make is not understanding the cost of ownership, says Roschelle. “They look at the monthly payment and come up with some number for utilities that they would have paid if they were renting.
They forget that the boiler is circa 1987, and they need to have 1 percent of the value of the home socked away because something is going to break.”
His guideline: If the escalating rent for the place you’re living day-to-day plus the costs of the second home are pushing 50 percent of your income, it doesn’t make sense. One way to keep the costs of your vacation place in check is to buy in a place with a homeowners’ association that takes care of predictable maintenance: lawn care, snow removal, and the like.
Will It Be a Moneymaker?
Airbnb and sites like HomeAway make it easier to use your vacation home when you want to and profit from it when you don’t. “It’s like the American dream on steroids,” says Roschelle. “I’m not just going to own it, I’m going to turn it into a business.” Tread carefully, though. If you rent your home out for less than 14 days a year, you don’t have to pay taxes on the money. More than that, though, and you’re entering a complicated world of taxation that requires clear and diligent record-keeping. You’ve also become a landlord, which is (at a minimum) a hassle and (at a maximum) a second job.
Might a Future Retiree Want to Buy You Out?
Are you looking to buy in a place where some retiree might eventually want to put down roots? “I think the prospects for housing values are quite good, particularly for areas where you’re going to see a lot of retirees in the next few decades,” says Zandi. If that’s a consideration, think about what an older person might want in a home as you look: Wide halls and doorways, a master bedroom suite on the first floor, an entry without stairways. You might not be able to capture all of these things (a very small percentage of the housing stock in the US has all of them), but the more the better.
