Buying A Second Home in Canada: How To Finance It And Expected Costs
Buying a second home is increasingly becoming a goal for many Canadian homeowners. Common reasons why many are thinking of second homeownership include:
- Get a vacation spot.
- For investment purposes.
- A bigger home to accommodate new family members.
- A home to accommodate children in college.
- Downsizing to a smaller home.
- A retirement home.
However, before deciding to purchase a second home, you need to consider several factors. One of them is financing. How are you going to fund your next home? Can you afford it? Are you willing to take on more debt?
How to Finance Your Second Home
Refinancing Your Current Mortgage
One of the most popular ways to finance a second home is through a home refinance. A refinance is mostly used by homeowners to:
- Increase the mortgage term by lowering the monthly payments.
- Decrease the mortgage term by increasing the monthly payments.
- Take advantage of lower interest rates.
- Cash-out part of the home's equity.
To afford a second home, many opt to cash-out part of the home’s equity under what is known as a cash-out refinance.
When refinancing your home, many lenders allow you to borrow up to 90% of the home’s equity.
For example, in 2019, if you purchased a single-family home in Edmonton at a total cost of $500,000 and paid 20% of that as a down payment, the mortgage value would be $400,000.
Value of house in 2019: $500,000
Mortgage principal due to 20% down payment: $400,000.
Mortgage value in 2022 after paying off $80,000 of the principal: $320,000
Home value in 2022: $700,000.
Available equity: $700k - 320k = $380,000.
In the example above, the lender would give the homeowner at least 90% of the available equity as cash. So the homeowner may receive $342,000 and end up with a total mortgage value of $662,000 (previous mortgage value + cash withdrawn from equity).
Now that $342,000 can be put towards a second home but the borrower will have their total mortgage value increased.
Home Equity Line of Credit (HELOC)
Another way to finance a second home is through a HELOC. This is a loan offered by banks, credit unions and private lenders. The loan is secured by the equity of your home so interest rates are usually lower.
Lenders require homeowners to have at least a 20% equity on their home before applying for a HELOC. Lenders usually lend up to 80% of the available equity.
In addition, a HELOC is different as it operates more like a credit card. Your lender will give you a line of credit based on the amount of equity you own on your home.
After cashing out the credit line given to you on a HELOC, you are required to make minimum monthly payments during a period known as the draw period. After the draw period is over, you will be required to pay the outstanding amount left on your credit.
Some lenders may require you to make lump sum payments or work out a payment plan to pay off the debt over a period of time.
A Second Mortgage
Though not popular and as advantageous as a HELOC and refinance, second mortgages are still an option if you want to purchase a second house. A second mortgage will add another monthly payment making your monthly mortgage payments two, one to your original lender and the other to your secondary lender.
Second mortgages are secured by the amount of equity in your home that you own. In other words, by the portion that you’ve paid off. Lenders will allow you to take up to 90% of your home’s equity.
However, second mortgages usually come with high-interest rates as it's riskier for lenders. One because your first mortgage takes more priority, second because they own less equity in your home and third because you're taking on more debt.
Now that you know your financing options for a second home, you need to consider the following:
- Can you afford to make monthly payments if you take a second mortgage?
- Can you afford to make the minimum payments on a HELOC?
- Can you afford an increase in your principal after taking a cash-out refinance?
So it may help to seek consultation before deciding to purchase a second home. This is a big decision that will affect how you manage your finances.
Talk to a mortgage broker to get a second opinion and arrange your finances to increase the chance of getting good interest rates.
Check out our Canada Home Buying Guide.
Buying An Investment Property
If you decide to buy a second home, you can take the opportunity to make additional income by:
- Buying a home and renting it out.
- Renovating a home to increase value and sell it.
- Buy a home and wait for the value to increase.
If you decide to rent out a house, check if your lender or insurance allows renting. Renting out your second home can earn you income if the revenue from the rent is more than the monthly mortgage payments.
To reduce the cost of acquiring an investment property, you can opt to look for foreclosure properties being sold for below the market price.
Buying A Vacation Home
Many Albertans, from Calgary and Edmonton, own vacation homes in the nearby province of British Columbia. They are attracted by the lakes, mountain climbing, hot springs, ski resorts, camping sites and a whole lot more.
A vacation home can be temporarily rented out when not in use by listing on platforms like Airbnb. Such homes can bring in lots of revenue especially if located in tourist hot spots.
Costs Associated With Buying A Second Property
Buying a second home means you’ll be responsible for paying property taxes on two properties. So you’ll have to account for taxes in your budget and figure out if you can afford it.
Keep in mind, income from rental properties may be taxable.
Having a second home that you don't use that often means that you have to figure out how to manage the property in your absence.
If you're renting out the house, you may need to acquire the services of a property management company to deal with collecting rent, managing vacancies, repairs and pest control, etc, especially if you stay far from the home.
Many homeowners forget to factor in insurance costs when buying a home. A second home will mean another insurance payment in your budget. The location of your property and its use will affect the cost of insurance payments.
If you buy a vacation home in a lakeside community, you may have to pay flood insurance. If you rent out a house, you may have to pay insurance in case a tenant gets into an accident.
Refinance and Closing Costs
When conducting a refinance, you need to consider the closing costs associated with the process. When you apply for a refinance or other types of loans, you may incur:
Application fee: Some lenders charge application fees when you apply for a loan.
Appraisal Fee: Before you get approved for a loan or refinance, an appraisal is conducted to determine the value of the home and hence the amount of equity available for leverage.
Inspection Fees: In some cases, you may need an inspection before closing on a refinance or purchase of a new home.
Attorney Fees: You may need an attorney when closing on your refinance or when purchasing your second home.
Title Search Fees: You may need to conduct a title search when applying for a refinance with a new lender.
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