Financing your future vacation home
By: Riaterra Marketing Team
Tags: Real Estate, Vacation Rental, Real Estate Investments

Vacation rental homes are spiking in popularity and for good reason.

A recent HomeAway survey showed that 70% of vacation rental homeowners could pay at least half the mortgage on their vacation home from the rental income it generates. For owners who work with professional property managers, the cash flow benefits may be even greater.

Owning a vacation home can be rewarding as you have an income-generating asset and a place that you can enjoy some downtime. Full-service vacation rental management companies like RIATERRA handle all the work so you don’t have to, making income generation a seamless process.

A guide for getting started

Financing a vacation home requires a slightly different approach than financing a primary residence, and working with a lender who specializes in second homes can be greatly beneficial.

There are a few vacation home financing options available that can make your dream a practical reality.

Lending options

Home Equity Line of Credit (HELOC)

For most homeowners, opening a HELOC on your primary residence may be your best option for financing a vacation home.

A HELOC is a loan based on the current equity within a home. Some homeowners are able to access up to 90% of their current home’s value when they choose to open a HELOC.

A HELOC is dependent on the amount of equity available from your primary home. You can pay for the entire home if you have the equity to match it. If the dollar amount doesn’t equal the full cost of the new home, the line of credit can be used for a down payment.

Taking out a HELOC means you won’t have to refinance the mortgage on your current home. The new loan isn’t attached to (and doesn’t affect) the first mortgage in any way, but your interest rate will vary depending on the type of HELOC you choose.

Cash-out refinance for primary residence

Refinancing your primary home and cashing out on the equity might also be worth exploring.

A cash-out refinance is where you convert some of your home equity into cash, establishing a new mortgage for your primary residence. In some cases, you can use a conventional loan to borrow up to 80% of the value of your current home.

Your new primary mortgage will depend on your credit score and your debt-to-income ratio, so make sure to discuss your refinancing options with a specialized lender.

If your primary home’s mortgage payment increases significantly, you want to be sure you can afford the new second home payment, along with any additional fees, taxes, insurance, and more on both homes.

Investment property loan

An investment property loan is for homes that are intended to be income-generating properties. Typically, interest rates on investment loans are half a point higher than those on conventional loans. A good credit score, usually above 650, is needed and will help with the overall terms of the loan. Typically, you’ll need to put 20% down on this type of loan.

A low debt-to-income ratio is also important. Most lenders will require your total debt to be at 45% of your monthly income or lower. Note: If you’re buying an investment property for the purpose of short-term rentals, the future rental income will most likely not count toward your gross income for that calculation.

Finally, have some cash on hand. A good rule of thumb is to have enough cash to cover two to six months of rent on both your primary and secondary residences just in case you lose your job.

Conventional loan

A final option to consider for financing a vacation home is a conventional loan. This is a tempting option, as conventional loans generally have lower interest rates than investment loans.

A conventional loan is a loan that falls under the Fannie Mae and Freddie Mac guidelines and has a fixed or variable rate with a set term. In most cases, your second home must be 50 or more miles away from your primary residence — otherwise, it will be classified as an investment property and is not eligible for financing through a conventional loan.

You can put as little as 10% down on a second home, but you will need to have a minimum credit score of 680. When considering a conventional loan, it’s worth comparing both adjustable-rate mortgages (ARMs) and fixed-rate mortgages.

Many lenders will want you to take out an investment loan. Others may be comfortable with allowing a conventional loan if you’re uncertain of your long-term plans. In either case, we recommend transparency from the start.

Next steps

Complete our Prospective Buyer Form to talk to a professional who is knowledgeable about vacation rentals and can provide you with helpful tools to make data-driven decisions.

Find a lender offering the loan you want.

Work with the loan officer to explore your options. Make sure you get the full picture of the costs for any financing — a rate and payment based on your situation.

And if you’re looking at opening up your home to (paying) guests to help finance the property, research your property management options. Companies like RIATERRA can make renting seamless and rewarding, allowing you to earn money without any hassle.

Let’s get you started.

Complete our Prospective Buyer Form to get started today.