A beach house is a signifier of wealth and a great place when you need to get away. You might even have such a great time on vacation that you think you can buy a property that pays for itself. After all, who wouldn’t want to spend a week at a beach house?! Turns out it’s not that simple. If it was, everyone would already have a beach house!
First Ask Yourself These Questions:
You’re imagining a beautiful beachfront property. A bonfire in the sunset and drinks in your hand. Maybe kids running around catching fireflies while the dog sits happily at your side. But did you forget how long it takes to get there? And all the thoughts you have to push out of your mind to actually enjoy yourself? Don’t! Because these are important considerations.
How much travel time can you realistically manage?
Before investing in a vacation home take stock of what you’re actually taking a vacation from. If you’re living the dual-income no kids (DINK) life, then it might be easier for you to get away than if you have kids, a dog, and errands that need to be done regularly. Luckily, you can hire a property manager to at least take care of your vacation property while you’re away.
A quick commute to your home away from home may make things easier, but a longer drive may make it another world away from home. That difference can be vast! A true vacation away from every day where you can either engage in intentional activities or simply lounge carefree and decompress. The question is: how much can you afford to travel?
Do you want to use your property as a rental when you’re not there?
Before even committing to your vacation property purchase, ask yourself if you want your property to serve as a rental when you’re not there. If your home is just big enough for you and your family, then its appeal as a rental is greatly diminished. So, check-in with a local realtor and find out just what sort of property to invest in.
Take note, however, that the criteria for getting a loan for a rental property are more strict than getting a loan for a primary residence. That’s because the lending institution is taking on greater risk by virtue of lending money to a property that you’re simply more likely to default on than your primary property. So, expect to make a bigger down payment, need a higher credit score, and undergo a more thorough investigation into your past finances.
What kind of extra maintenance is required?
If your property is near the ocean then you need to take the ocean into account!
Saltwater, high winds, and sand all require extra care. Repairs vary in cost, but regular maintenance is unavoidable. Sure, stainless steel hardware and furniture that’s secured directly to the deck can mitigate some adverse effects, but, at the end of the day, you’re simply going to need an emergency fund in anticipation of unexpected events that will befall your property.
You’ll want to hire a local inspector to thoroughly survey your home so that your property meets all the most current ordinances and that your potential home is actually up to snuff. The cost of repairing and replacing everything from hot-tub covers to water heaters adds up!
What kind of flood insurance will you need, and how much does it cost?
If you’re living near the water it’s not a question of if a big storm will strike but when a big storm will strike. You’re going to need flood insurance, the cost of which will depend on where your home is located. This is something you should investigate before even purchasing a home because with enough expenses your rental property may generate a negative income, and that’s simply an infeasible plan.
Real Estate Costs and Borrowing Costs
Vacation homes tend to be pricier than primary residences, which makes sense since by definition they’re where you go when you want to get away from it all. And you definitely don’t want to get away to someplace worse than what you’re leaving behind! Factor in high-interest rates to make up for the higher risk lenders are taking, and you end up with a potentially costly purchase.
Here’s some simple math to illustrate this point. A 30-year, $1 million mortgages with an interest rate of 4% comes to $4,774 per month. That same mortgage with a 5% interest rate is $5,368 per month. $600 extra a month adds up fast!
Homeowners’ insurance on a beach house is going to be far more costly than the insurance on your primary residence because the cost of mandatory flood insurance has increased. This is especially the case on the East Coast, which has experienced greater storm damage with each passing year. So, don’t be surprised to pay $10,000 in flood insurance at a minimum if your beach home is in Florida or North Carolina. Meanwhile, the cost of insurance in California is considerably less, although widespread wildfires may soon change that. Additionally, lower insurance premiums in California are offset by higher real estate prices.
Bills and Expenses
In addition to the mortgage and utilities, expect to pay high taxes on your beach house given its high value. If your beach property will also serve as a source of passive income, then expect to cover the costs of running your own business. You can hire a property manager to take care of everything from finding tenants to maintenance, but you may still have unforeseen expenses like litigating tenants.
If you’re going to use your rental property as a source of income, then you’re going to need a detailed budget. This will include regular operating expenses like landscaping and gutter cleaning, the occasional costly replacement of a roof or water heater, as well as unforeseen emergencies like burst pipes. Again, having a property manager makes owning an investment property much easier, but it comes at a price that ranges from six to 12% of your collected rent.
There are certain benefits that the IRS allows that make it easier to use a vacation property as a rental property. You just need to know a few tax rules.
Depreciation is a tax deduction that makes buying and maintaining a rental property easier. Depreciation does not include the cost of land, so the first thing you need to do is find out the cost of your land and subtract it from your cost basis (how much you paid for the property). Then you divide that sum by 27.5, which is a period of time known as the “useful life”. This term designates what the IRS considers to be a reasonable amount of time for your property to generate cost-effective income. If the value of your property is $100,000, you deduct $3,636 yearly for depreciation ($100k ÷ 27.5).
When you sell your property, you’ll have to pay a tax on the amount you deducted thanks to depreciation. This tax is known as depreciation recapture. To calculate how much you owe simply take the sum of the amount you depreciated and multiply it by 24%, the depreciation recapture tax rate. If you deducted $100,000, then your depreciation recapture would be $24,000.
The important thing about depreciation recapture is that it’s taken based on the depreciation you can deduct rather than depreciation you did deduct. If you don’t take advantage of depreciation, the IRS will act as if you did and tax you accordingly. So take advantage of it!
Personal Use of Property
If you want to use your vacation home as a rental property then you can only use it yourself for a limited number of days while still being able to deduct expenses. You can use your rental property yourself for 14 days or 10% of the total number of days the property is rented at a fair rate. So, if the property is rented for 200 days, you personally cannot use it for more than 20 days.
Common Mistakes to Avoid
Learn from the best! And by that, we mean the worst mistakes you can make when shopping for a beachfront property. Taken as a whole, these considerations may make you want to reconsider owning a vacation home in the first place!
Not sticking to a budget
Don’t go overboard just because you can! You always want wiggle room when budgeting for a home because of repairs and renovations, particularly when having to deal with the effects of the beach on your property. When making a budget, set your expectations one, five, and ten years out so that you’re truly prepared!
Counting on rental income to offset your costs
Don’t bank on your rental income covering your mortgage entirely. Aside from unforeseen events, you also have to factor vacancies into your budget because there will likely be times when you have no tenants. When the going gets tough, the tough get renting, but a beachfront property isn’t likely to be the place people rent when experiencing economic hardship. Instead, vacations go down, so you may find yourself with a financial sinkhole.
Forgetting about the neighbors
You can fall in love with a place, but you also need to fall in love with the neighborhood. Walk or drive around and make conversation with the people you meet. Is your community full of partiers, families, or retirees? How often is your neighborhood bustling and how often is it barren? These are things you need to know!
Not using a compass
What direction does the wind blow and what direction does your home face? You need to know because the answer to this question may determine how much damage your home takes during a storm. You also want to actually know which way to face when the sun rises and sets because you may find yourself with a home that has walls in both directions rather than balconies, depriving you of the very views that inspired your purchase in the first place.
Skipping out on the proper insurance
If you’re going to be renting your vacation property then you need homeowners insurance that covers rentals. Surprise, not all insurance does! You’ll also want disaster insurance that has both flood and windstorm policies. Better to have it and not need it than need it and not have it!
Not using a coastal home inspector
The person inspecting your home better be an expert in coastal properties because living near the beach comes with its own unique set of considerations. Salt-air requires a salt-air expert!
Is Buying a Beach House a Good Investment?
Short answer: no. A rental property is a good investment idea, but a rental property on the beach presents too many variables that make it an unstable source of income. Additionally, its usage is limited to certain times of the year and the very thing that’s appealing about being near the beach–the beach– is what ends up causing the most damage to your property. Will your home be destroyed by a storm? Maybe. Will your home require additional care because of sand and salt air? Absolutely!
If you want a beach house to get away, then you be the one to rent it. And if you want a rental property to make money off of, make it one that’s not near a beach. Instead, pick an area that has a reliable source of tenants. There are enough advantages to making a passive income from renting that it’s a good idea. It’s just that a rental property near the beach causes too many headaches. It’s enough to make you exclaim, “I need a vacation!”