Many people aspire to having a second home down the shore or in some other vacation spot. Buying one is a huge financial commitment that may place a serious drain on your resources, and costs can be high for something you may only use 4-8 weeks a year. Costs include:
- Opportunity Cost: The opportunity cost on the funds you have tied up in your down payment and the equity you have in the home. If you can earn 6-7% on your invested assets and you have $100,000 in equity in the home you need to consider that as a sunk cost. Granted it should be offset by appreciation in the home but there have been many instances where certain vacation areas lose popularity and homes do not appreciate or they actually decline in value.
- You may spend anywhere from $25,000 to $100,000 to furnish a second home.
- Maintenance: A good rule of thumb is to estimate that maintenance on the home can cost from 1-3% of the value of the home annually. You also need to be prepared for large expenses like replacing a roof or other costly systems in the home. Maintenance might be costlier than your main home since you are not there and some items you might handle yourself will required that you hire someone. Sometimes small issues can morph into big ones if you are not there when they begin.
- Ongoing expenses: Include property taxes, utilities, insurance, etc. Insurance costs can be 20% higher than your principle residence since insurance companies view it a higher risk since someone is not their all the time.
- Flood insurance: many homes are in flood zones and flood insurance can be costly.
- Mortgage: you will probably have one unless you are willing and able to pay all cash. Even if you can it may not make sense if mortgage rates are 6% or less and you can earn 6% or more on your invested assets. We do suggest you get a fixed rate mortgage and not an interest adjusted one if you plan on keeping the property for 5 years or more.
Consider that a vacation home costing $500,000 (in NJ) might cost:
Property Taxes: $6,000
Maintenance: $7,500 (1.5%)
Flood Insurance: $1,000 +
Mortgage Interest: $19,000 (400,000 mortgage, 5%, 30 years, first year interest)
Opportunity Cost on Down Payment: $6,000 ($100,000 down payment; 6% assume rate of return on invested assets).
Utilities: $2,000 – $5,000 (can vary widely depending on air conditioning use, off season use, etc.)
On the low end that second home may cost you $43,000 per year!
Renting the Home
You could defray some of the costs by renting the home part of the season, a home at the NJ shore might rent from $1000 – $3500 per week depending on location and size of the home. A problem with this is that you will need to rent it during peak season so it will not be available to you for much of the summer unless you limit the rental to say 8-10 weeks. If you do you might realize $16,000 – $25,000 and possibly cut your carrying costs in half. Unfortunately, that rental income will come with a price: dealing with tenants who will not treat the property as carefully as you do and you may need a place to store personal items to protect them from abuse and theft from tenants. Renting the home dramatically defeats the purpose of having the second home. We also did not mention that you will probably owe a realtor commission for the rental and you may want to consider hiring a property manager with a local presence to take care of issues that might arise.
Purchasing a second home means you will feel obligated to vacation there every year. You may end up going there instead of traveling to other places because of this “obligation.” On the other hand, it may be a place where you can spend time with your family and become the social center for family and friends.
You may want to consider instead, renting a home someplace for a few weeks. There are several advantages to that:
- You can vacation in many different places. We have personally rented homes in Italy, London and Iceland, the costs ranged from $1,500 to $2,500 for a couple of weeks. If you rent someplace for a month expect the average cost per night to drop further.
- The total cost will be much less long term since you will only be paying the cost when you are actually using the home.
- With the advent of rental services like AirBnB it has become easy to check out homes, view their ratings from prior renters and rent homes, apartments, etc. in many exotic places.
- You do not have the fixed costs of owning a second home and it frees up the capital to be invested.
Know the Costs
We have created a spreadsheet that can estimate the costs of purchasing and owning a second home. Contact us if you would like us to analyze the costs for you.