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What’s the difference between an investment property and a second home?

Owning a second home for a vacation getaway or a place to retire is slightly different from owning an investment property. While both present the opportunity to generate income, there are considerable differences in what distinguishes one from the other. It’s important to consider that the classification has an impact on loan rates, down payment requirements and tax treatment.

couple signed a contract

Let’s delve into the difference to help you figure out which option is best for you.

What is a second home?

A second home refers to a residential property such as a vacation home that you buy while maintaining your primary residence. It can also refer to a property that you often visit for business, such as a condo or retirement home. From the IRS perspective, you must live in the property for at least 14 days of the year, or 10% of the total number of days it is being used as a rental property to be considered a second home. Otherwise, it will not be considered a second home. 

What is an investment property?

A single-family home or multi-family property up to four units with the sole purpose of generating income, is considered an investment property. Types of investment property:

  • Residential rental property: refers to a dwelling being rented out with the express aim to yield profit
  • Purchase and flip property: popularly known as a “fixer-upper” home which is intended for selling for quick profit , instead of generating rental income.

Mortgage Requirements

Most lenders are stringent with mortgage requirements for second home or investment property, primarily because it is seen to pose a higher risk than for primary homes. Lenders assume that homeowners are likely to prioritize paying the mortgage of primary residence before that of a second home. 

Credit score

A second home borrower needs a minimum credit score of 620-680 or higher. Those looking for a loan for an investment property, should look to be scoring 700 or higher. The higher rating required for an investment property takes into account the higher risk perceived when opening a business venture. 

Down payment

For a second home, you need to come up with an upfront payment of 5% to 10%. Because of the greater risk involved in investment property, lenders require a minimum of 15% to as high as 25%,

Eligible military personel and family can make use of the U.S. Department of Veterans Affairs (VA) loan with no down payment for multi-family properties up to four units. However, it requires borrowers to live in one unit and use it as primary residence.

Interest Rate

Interest for investment property is higher than a second home, again primarily due to the fact that lenders consider it higher risk.

  • Second home mortgage rates: Up to 0.50% higher
  • Investment property mortgage rates:  Around 0.50% to 0.75% higher

Tax Deductions

The mortgage interest for a second home is tax deductible within the $750,000 total debt limit ($375,000 if married filing separately). You can enjoy the tax deduction provided you 

don’t rent it out, or rent out not more than 14 days a year.

Investment property is fully tax-deductible. Expenses related to property such as taxes, utility bills, repairs and maintenance, insurance and depreciation are allowed for deductions. Rental income is deductible if rented more than 14 days per year.

Get more information in buying second homes for sale or an investment real estate property in La Quinta, CA from trusted local La Quinta Realtors. Work with Kathleen O’Keefe Galigher, an experienced La Quinta real estate agent. Call 760.567.7822 or send a message here