Planning When is the right time to buy a second home?

If you’re considering buying a second home, congratulations – while the U.S. homeownership rate is 65%,¹ far fewer people own a second home. Becoming a member of this elite class is no easy financial feat, which is also why you need to think practically about the decision before you buy.

Here’s what you need to know about adding a second home to your real estate portfolio and when may be the right time for you.

Buying a second home: What’s different?

As a homeowner, you’ve been around the block and probably have a good idea of what goes into the homebuying process. Down payment, mortgage, closing costs, property taxes, insurance … you know, all the stuff that gave you nightmares the first time around. Many of those same things will apply to any future properties you set out to buy.

What you might not know is that taking out a mortgage on a second home – something that most people who buy a second property have to do² – looks a bit different than mortgaging a primary residence.

General qualifications for a second mortgage

For a second mortgage, lenders take the same financials into account – namely your credit score, down payment and debt-to-income (DTI) ratio. However, the standards are higher for a second home. Lender math says that more mortgages equal more chances for you to default if you have money troubles, so they’re going to pull out all the stops to make sure that you really can afford another home.

To finance a second home, you’ll need:

• A higher down payment: While some people can get away with a 5% down payment on their primary residence, you’ll need at least 10% upfront to buy a second home, and it’s advisable to go higher.³
• A higher credit score: If you’ve been skating by in the “good” range (670 to 739), you may want to consider making some changes and getting bumped up to “very good” (740 to 799) to increase your chances of mortgage approval.⁴
• A lower debt-to-income (DTI) ratio: This is especially true if you’re operating with a lower down payment or credit score. While a ratio between 36% and 41% suggests that you have manageable levels of debt, you should target 36% or less to qualify as an ideal candidate in lenders’ eyes.⁵
• Emergency savings: Applicants who are otherwise well qualified may be expected to have at least two months’ worth of expenses saved. But if you’re lacking in terms of your credit score, down payment or DTI, you may need more like six months – meaning enough money to pay the expenses on both homes for half a year.

Keep in mind that these qualifications apply to mortgages on a second, nonprimary residence that you plan to live in for part of the year. Requirements for a mortgage on an investment or rental property are different and can be even stricter.

Silver lining: Your first home can help you buy your second

If the tougher lender requirements are a downside, there’s a silver lining. As a homeowner, you can borrow against the equity you hold in your primary home and put it toward the down payment for a second home. To do this, you have two options: a cash-out refinance or a home equity line of credit (HELOC). These approaches allow you to leverage your existing asset to finance your next, which could be a better strategy than tying up a lump sum of cash for a major purchase.

A cash-out refinance allows you to borrow up to 80% of your home’s current value, depending on your credit and how much equity you have.⁶ You’ll be stuck with larger monthly payments and a new interest rate afterward, so you will need to weigh whether that’s worth it.

A HELOC means that you’d be taking out a line of credit against your equity, which you could then use to purchase a second home. For this to work, you’d need enough equity to qualify, and you’d have to be able to take on the expense of repaying your HELOC.⁷

3 factors to consider before buying a second home

The most important factor to consider before buying a second home is whether it makes sense as an investment for you and your family. Lenders’ terms may seem harsh, but leveraging the equity in your primary residence can be a great way to build out your real estate portfolio without tying up a lump sum of cash.

You may also want to think about why you want a second home in the first place. While younger generations are not yet likely to be able to afford a second home, older Americans often downsize or sell property to help them afford a comfortable retirement. Are you in a good stage of your life to accommodate a second home? Are you prepared for the maintenance that comes with it? Can you envision yourself enjoying the home for years to come? These are questions that only you can answer, but they are worth considering before pulling the trigger.

Finally, the housing market will always be a factor in any homebuying decision. While trying to time the market is not advisable, there are times when it is more difficult and costly to buy. The broader economy and the local economy where you’re searching can affect things like home prices, interest rates and housing inventory. It is important to take these things into account when determining if a second home is a sensible purchase at that time or in that locale.

Before buying a second home, it may serve you well to have conversations with a financial advisor and a real estate professional to determine if this is the right time for the purchase.

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