Financing Second Homes vs. Investment Properties
Lenders evaluate risk in multiple ways. One primary way they evaluate risk is by reviewing credit, more specifically credit scores. The higher the score, the better the credit history. Employment history is also an important factor. Lenders ask there be at least two years of employment history before employee income can be used to calculate debt to income ratios. And speaking of debt to income ratios, lenders view higher debt ratios as having more risk compared to lower ones. How much down payment someone is putting down on a home is also a risk factor. The more down payment, the more comfortable a lender will be when evaluating a loan application. Another risk factor involves the use of the property. Who will live in the home being financed?
Lenders provide their lowest rates to those who have good credit, employment history, income, debt ratios and the applicants intend to live in the property being financed. The “owner occupied” status receives the most favorable loan terms. Lenders figure that if someone ever gets into some sort of financial straits and that individual owns multiple properties, it’s likely keeping their primary residence is a top priority while selling other homes such as vacation homes, second homes and rental properties.
As it relates to interest rates and terms, vacation homes, second homes and rental properties will have higher rates and less favorable terms compared to an owner-occupied unit. On the initial loan application, there is a space where the applicants identify the occupancy of the home being financing. If it’s for a primary residence, the “owner occupied” box will be checked. If for a vacation home or second home, that will be noted as well. For an investment property, there is also a box for that. But what’s the different between a second home and an investment property?
Investment properties will carry higher rates compared to a second home or vacation home. But there are rules that determine the differences between a second or vacation home and a rental. Technically, if the property is rented out for more than two weeks per year, the lender will consider the property being financed is an investment property and not a vacation home. That’s why a second home or vacation home will have slightly better terms compared to a property being used as a rental or at least rented out more than it being occupied by the owners.
Lenders do assign a slightly higher grade of risk for a rental property compared to a vacation home and that’s why rates and terms are a bit higher for rentals. The status must also make sense. A vacation home located in a vacation area makes sense if it’s on the beach or in the mountains. A vacation or second home isn’t one that’s across town, for example. In terms of more favorable loan terms to less, occupancy status ranges from primary residence, vacation and second homes and investment or rental properties. Your loan officer can provide you with rates and terms for each.