If you are thinking about purchasing a second home for use during vacations, as rental property or as an investment, you should consider the current tax breaks when conducting your research. There are certain tax rules that apply depending upon how you plan to use your potential new investment. Since many homeowners plan a mixed use of their second home by renting it and using it for personal vacation, understanding how the current tax laws would apply to your situation will be a useful factor in making a final decision. Let’s examine a few of the most common financial questions:
Will we use our new vacation home as rental property or a “second home?”
If your plans are to make your new purchase as a second home, you may deduct the mortgage interest just as you would on your primary home. Currently, you can deduct 100% of your interest up to $1.1 million of debt secured by both your primary and second homes. In addition, you can also deduct your property taxes on your second home. However, general expenses like utilities or maintenance costs are typically exempt from interest deductions.
How many days do I plan to rent out my vacation home?
The tax implications for renting out a vacation home can be complicated and depend upon the length of time that you rent it. You can rent out your second home for any amount for 14 days or less without having to report any of the income generated to the IRS. Since the house is considered a personal residence, you would still be able to deduct mortgage interest and property taxes under the standard second home rules.
When you rent out your home for 15 days or more, it is considered rental property. In this scenario, all rental income must be reported to the IRS. You can also deduct rental expenses such as property management fees, 50% of depreciation, insurance premiums, utilities, property taxes and mortgage interest. In addition, up to $25,000 (ex. Repairs from a hurricane) in damages may be deductible each year. However, you will have to determine how much time in the year you used the property for personal use versus rental use. Time spent in the home for maintenance or repairs does not count as personal use and means that you can spend more than 14 days in the home.
If you use your vacation home more than 14 days or 10% of the time that it’s rented, the rental loss can’t be deducted because it would be considered a personal residence. It is important to note that if you rent your home to a family member or friend that time is considered personal use unless you receive a fair amount for rent.
What taxes are owed if I sell my second home?
When you sell a vacation home that is not your primary residence, you will likely have to pay capital gains tax. Now, if you move into your second home at least two years prior to selling it, you may have some tax benefits due to the Housing and Economic Recovery Act of 2008. However, you will want to check with your real estate agent at Bald Head Island Limited Real Estate Sales to completely understand your options before listing your second home.
Purchasing a vacation home can be rewarding, both personally and financially. Whether you plan to use a second home for personal vacations or rental property prior to moving in during retirement, there are several financial considerations that should be examined prior to purchase. If you are considering acquiring a vacation home on Bald Head Island, contact one of our knowledgeable real estate agents to assist in your search by clicking here.