Financing a vacation home is one of the most popular ways to become a second (or even third or fourth) homeowner. Growing numbers of Americans these days are living a prime variation of the real estate dream: you know, the one about owning a property in your favorite place that you can use as a second home or just a much-needed escape from the pressures or banality of the everyday. In fact, the phrase “vacation home” practically makes us giddy, whether the place in question is located in the mountains, on the water, or in a bustling city.
Interested? Obsessed, even? Then you’d better get your finances into tiptop shape.
Financing a vacation home
Certainly you’ll find plenty of company. Vacation home sales soared to 1.13 million in 2014, according to the National Association of Realtors®. That’s the highest level since NAR began the survey in 2003, and a 57% increase from 2013.
The spike reflects an improving economy—as well as demographic shifts that have more baby boomers purchasing vacation homes intended to serve as their primary residence after retirement.
Seven in 10 vacation-home buyers use a mortgage to finance the purchase. So if you’re considering buying a second home, here’s what your lender will be looking for:
Good credit
You’ll need a credit score in at least the mid-600s to qualify for a mortgage on a vacation home, but the higher your score the better rate you’ll get on the loan.
“Our best rates tend to be for clients who have a 720–740 FICO score,” says Quicken Loans Vice President Bill Banfield. “As the score goes down, the costs increase incrementally.”
If you know you’ll be making a vacation home purchase in the near future, check your credit reports now to see if there are any errors or if your score needs improvement.
A higher down payment
While there are conventional loan programs for primary home residences that allow you to make a purchase with as little as 5% down, you’ll need to put down at least 10% for a vacation home. As with conventional mortgages, putting down at least 20% will give you access to the best possible rates without having to pay mortgage insurance.
Extra cash on hand
In addition to having enough assets to cover closing costs and moving expenses, you’ll need to have cash reserves equal to at least two months’ worth of expenses on the vacation property in order to get loan approval.
Income to support both properties
Ideally, lenders are looking for a debt-to-income ratio of 43% or less for both the vacation home and your primary residence. Typically, that means the total cost of the mortgages and taxes on both homes, along with any other household debt such as student loans or car payments, can’t equal more than 43% of your total family income. In some circumstances, lenders may be able to make an exception.
“If you’re pushing the envelope with your debt-to-income, it helps to have a higher credit score or put down a bigger down payment,” says Kevin Leibowitz, president of mortgage broker Grayton Mortgage.
Proof that it’s a vacation home
The financing requirements of a vacation home tend to be more favorable to borrowers than those for an investment property, so your lender will want to know that the home really is going to be used by you for vacations rather than to rent out for income. Typically that means proving the property is at least 50 miles from your current home and confirming that you have no plans to rent out the home for large parts of the year.
