Pros and Cons of Owning a Second Home in Retirement
So you’ve retired or are fast approaching that new period in life and you find yourself in the unique position of owning a second home and wondering if it makes sense to keep it or not.
Or the idea of acquiring a second home sounds appealing, be it for vacationing, to eventually reside there full-time, for legacy purposes, or to function as part of an income-producing strategy in retirement.
Unlike owning a boat, where many owners consider the day they buy and the day they sell as among their happiest (and as such pretty straightforward), a second home in retirement comes with a bunch of considerations.
There are pros and cons that should be considered.
Ultimately, the decision to buy a second property in retirement, or to hold if you already own one, is one that should be made in the context of your overall retirement plan strategy.
The decision should be guided by what makes most sense for you and your family, with emphasis on how it will impact your ability to live out the retirement vision you’ve set for yourself.
Enjoying life in a manner that best suits your taste after years of working hard, owning and maintaining a home, possibly raising kids and all the time and expense associated with doing so, spending a lot of money on all kinds of things you needed (and a fair amount on those things you merely wanted), the unexpected crisis (health, emergences, flooded basements, etc.), and so much more.
And somehow you made it through it all. Now you’re in or approaching retirement and just as you did in trying to diligently prepare for your golden years, you want to be sure you continue to make good decisions so you don’t somehow imperil your future.
There’s definitely lots of decisions to be made, ranging from where you want to reside, whether to downsize to a smaller home, the amount of travel you might want to do, how you want to spend your time (with family, hobbies, volunteering, etc.), what you might want to do with your savings, passing on assets, etc.
Another retirement-related decision that a fair number of people are facing is whether it might make sense to purchase a second home, or that of what to do if you already own a second home.
There are definitely benefits and risks with either scenario.
Today we are going to examine some of the reasons for owning a second home in retirement, as well as some of the pros and cons that can come with such a decision.
Why own a second home
For most, their home is their single-largest consolidated asset. The home is also generally your largest source of expense when you consider a mortgage, normal repairs, insurance, taxes, HOA fees, and more.
Then you have those potential “big honking” killer expenses, such as a new roof if you’re there long enough, and the same for an HVAC system.
When you consider a second home, whatever it’s intended use, you are looking at all of that times two, and more. Ouch!
Yet, you are thinking about purchasing a second home or carrying an existing one into retirement.
Why? For what purpose?
You should have a clear reason for doing so, given the costs and the fact there will be risks involved.
Let’s stipulate that you can afford to do so, so it’s safe to say you’re thinking about this for one (or more) of the following reasons:
- Vacation home – convenience
- To eventually relocate to on a permanent basis
- To pass on to beneficiaries
- To produce monthly retirement income from renting
- As an alternate asset to stocks and other securities in your portfolio – seeking price appreciation to drive growth in your savings over time
On the surface, those are all legitimate reasons to buy or hold a second home in retirement. Let’s look at some of the pros and cons:
- You want to purchase because you can afford to do so and you’re wanting to be able to get away to a favorite spot at least a couple times or more each year
- You want to have family and possibly friends join you for vacations. Maybe even make the place available so they can all enjoy an affordable vacation once in a while
- Theres’s the potential of keeping equipment and toys there, making it possible and convenient to get away easily (example – not taking a boat, all-terrain vehicles, etc. each time you go to the home) versus lugging that stuff every time you want to get out. There’s the added benefit keeping things like heirlooms and other possession there that you may want to pass down one day versus paying for storage in a commercial facility
- You can include as an asset as a part of your estate for legacy purposes
- You can use it some, but also rent it as a part-time vacation property, with hope of having it pay for itself and potentially bringing in income
- Renting it out full-time for a monthly source of retirement income
- Potential tax deductions and breaks
- According to The Mortgage Reports publication, you’ll likely pay a higher rate if purchasing a second home in retirement, given lenders see this as riskier than first mortgages secured by a home. The reason is that fewer people are willing to walk away from their first or primary home if things get tough for them. Less so when it comes to second homes. Same holds true regarding a requirement for a larger down payment
- Increased insurance costs to cover both homes. And if you are renting it out, you’ll pay landlord insurance as well.
- Given this is a second home, you will not be eligible for a capital gains exclusion on the income taxes you pay if/when you sell it
- The maintenance costs of owning two homes can be significant. You’ll need to check on the second home on a regular basis, or hire someone to do so. This will include potentially cleaning and performing regular maintenance, as well as necessary repairs when they arise. Or pay a property management company to do these things, which brings in an added expense to the cost of having a second home
- You’ll also pay for things like utilities, cable/Internet, HOA fees, home security costs, and more
- There will be times when the home will remain unrented (if renting is your main objective), in which case you will have to cover the mortgage and all associated costs for the second home. You have to ask yourself if you can do so and are your willing to accept the risk that might put on your retirement plans
In addition to weighing pros and cons, you will definitely need to assess your ability to sell the home in the near term (whether newly purchasing or with an existing home) if your personal situation changes (example – health issues, death of spouse, loss of income source, etc.), the market turns south and your portfolio suffers, or for any number of other myriad issues.
To make such an assessment, you need to look at the current climate to determine whether it’s a good time to sell the home if you are so inclined. If it is, at least you have a good option and can then look at other factors in terms of determining whether it makes sense for you to own a second home in retirement.
Things to think about:
What are home prices doing in your area? Do you believe they will remain strong and allow you to hold on and take advantage of future price appreciation that might justify keeping the home for a number of years to come?
Keep in mind that interest rates can have an impact on potential rental or purchase candidates. Beyond that there are economic conditions locally and nationally. A downside turn could force your hand, in which case timing could suddenly become a big problem for you.
Is there much demand in the area where your second home is located? This can be for either selling a home or renting it out. Texas, Arizona, Florida and Nevada all continue to be markets that are seeing tremendous influx and demand, meanwhile other areas of the country are experiencing the opposite. A lack of demand can lead to declining valuations, which could diminish the value of your portfolio and potentially put your retirement at risk.
If you don’t anticipate much price appreciation, then it’s definitely time to perform a cost-benefit analysis to determine if it makes sense to hold or go ahead and sell. Keeping the home with little chance of seeing prices rise in the foreseeable future is not a zero-sum game – this path can negatively impact your portfolio…and indeed your retirement.
There will be times when the home will remain unrented (if renting is your main objective), in which case you will have to cover the mortgage and all associated costs. Can you do so and are your willing to accept the risk that this might put on your retirement plans?
Personal or investment/rental category
When it comes to the issue of owning a second home in retirement (new or existing), it will be viewed as either a personal or investment/rental property.
Each of the two come with their own tax considerations. Whichever category, you should examine the potential rewards and risks in the context of your overall retirement plan.
The actual categorization and treatment boils down to whether the home will be classified as a personal residence or an investment/rental property.
According to the IRS, the determinate factor regarding personal versus investment/rental is that of the number of days you actually reside at the second home.
Under the 2017 Tax Cuts and Jobs Act (TCJA), to be considered a personal residence for the tax year, you would need to stay at the home for more than 14 days.
But there is a caveat. If you were to rent it out for a longer period of time, then the IRS looks at the greater of the 14 days or for more than 10-percent of the number of days you rented it out to be considered a personal residence.
For example, if you rented the house out for 200 days during the year, you would need to use the home for more than 20 days for it to be considered a personal residence.
If your house is considered a personal residence, according to the IRS:
- You won’t need to report rental income on your taxes (as long as you rent for less than 15 days total throughout the year)
- You can deduct interest on home equity loans on your Federal taxes if you make use of the funds to buy, build or substantially improve the home
- You may be able to deduct some or even all of your mortgage interest payment for the year on your Federal taxes. The combined total interest for homes purchased prior to December 15, 2017 is $1 million, while everything thereafter is $750,000, as long as both mortgages are secured by the homes.
- TCJA also allows you to be able to deduct up to $10,000 combined in property taxes for both residences, $5,000 if married filing separately. Keep in mind that figure is for all combined state and local taxes paid and not just property taxes, which may limit the amount you can deduct
If your house is considered an investment/rental property:
- You will have to report the rental income to the IRS, which will be considered ordinary income
- You can’t deduct mortgage interest on your personal taxes, but you can deduct mortgage interest as a business expense to lower your rental income
- You can deduct property taxes and they are not limited to the aforementioned $10k limit
- You can deduct legitimate business expenses, such as marketing and advertising, insurance (property and landlord), improvements, maintenance, cleaning, property management, utilities, depreciation, and more
(Note: if the home is used for both rental and personal use, the expenses are to be pro-rated based on the number of days rented versus those for personal use)
The decision to purchase a second home in retirement, or to hold an existing one, is obviously a big one. There are pros and cons to doing so, including huge tax implications that can benefit you or actually add undue risk.
Ultimately you should consider a second home in retirement in the context of your overall retirement plan. In that sense, it should enhance your retirement plan and increase your odds of living out the retirement you’ve envisioned.
Or instead you should think twice and consider the risks involved and how that might negatively impact your retirement.
Fact is retirement is complicated enough already. Adding a second home can definitely make things more complicated, as we’ve demonstrated.
The good news is Oak Harvest can work with you to address the complicated issues involved with owning a second home in retirement, as well as the many others you’ll encounter.
We’ll build a holistic, comprehensive retirement plan addressing owning a second home, as well as all your income and other relevant issues, utilizing strategies that cover taxes, income, spending, healthcare, legacy, and more, customized to your family’s specific needs.
A plan created with the goal of ensuring you have the best opportunity of living out the retirement you and your spouse envision.
Let Us Help You Achieve the Retirement You Deserve!
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