A guide to buying a second home and renting the first

Quick insights

• Renting your first home after buying a second one offers a way to create a new, relatively passive income stream.
• Before making the leap, carefully crunch the numbers, explore the mortgage requirements and consider the time and effort involved in managing a rental property.
• If purchasing a second home and renting the first doesn’t fit your lifestyle, you could consider selling the first home and purchasing a new home to live in.

Buying a second home and renting the first one might be possible for some homeowners looking to move. Turning your first home into a rental can come with benefits, like a new income stream. But it’s helpful to dig into the financial feasibility and property management logistics before jumping in.

This guide explores how to buy a second home and rent out the first one.

What does it mean to buy a second home and rent out the first?

It’s sometimes possible for homeowners to buy a second home and rent out their first. However, whether or not this is possible varies based on the homeowner’s unique situation.

The term second home refers to a property that isn’t your primary residence. So if you’re considering living in the second property you acquire, that will become your primary residence. Legally, the first property you owned would become the second home, since you wouldn’t be living there.

Deciding which property to make your primary residence can affect you either way, as the down payment requirements are usually higher for second homes. Some mortgage types are also meant to be used only for primary residences. If your first property’s mortgage was intended for a primary residence, you might need to refinance that mortgage when moving out into another home full-time.

The semantics here can be confusing, so don’t hesitate to contact your mortgage lender with any questions.

How to buy a second home without selling my first

If you want to buy a second home without selling your first, consider the following.

Assess your financial situation and goals

Start with a careful assessment of your financial situation and goals.

First, take a look at your finances. To obtain a mortgage for a second home without selling your first home, you’ll still need to meet the financial criteria set by the lender. With your first home’s mortgage in the mix, some general metrics to keep in mind include:

• Down payment: Down payment requirements are usually higher for second homes.ec-mortgage-vacation-home-exp However, even if you plan to use the new property as your primary residence, you’ll probably still need to come up with a down payment.
• Debt-to-income (DTI): An existing mortgage payment might mean you have a higher DTI, which measures your monthly debt obligations against your gross income. Typically, lenders prefer to work with borrowers whose DTI remains below 43% when the new payment is included.ec-mortgage-vacation-home-exp
• Income: When taking on another mortgage payment, lenders often prefer to work with borrowers who have sufficient income and/or savings to support both payments.ec-mortgage-vacation-home-exp

When planning to rent out your first home, the mortgage lender may allow you to use that projected income as a part of your mortgage application. This additional income might help you qualify for another mortgage while hanging onto your first loan. But this practice varies from lender to lender.

Beyond assessing your financial situation, considering your financial goals is also helpful. Turning your first home into a rental property can come with significant hurdles and ongoing property management challenges that often take time out of your calendar. Confirm you’re comfortable adding a rental property and the challenges that come with it before committing to the process.

Research the rental market

If you still find the idea of turning your first home into a rental property appealing, take a deep dive into the numbers of the property and the surrounding rental market.

It’s important to determine whether your first home will make a good rental property, which usually means generating income and building wealth through appreciation.

At a minimum, you’ll likely want the rental income to at least cover the monthly costs associated with the property. In addition to your mortgage payment, don’t forget to consider landlord insurance and property taxes. Beyond that, the property should preferably earn enough to cover big-ticket repairs.

Purchase another home

Once you confirm that your plans to rent out your first home make sense financially, it’s time to go through the homebuying process for your second home.

Generally, this process will look similar to when you obtained your first mortgage. But you’ll likely need to provide additional information to the lender about your existing property, the associated mortgage and your plans for the property.

Additionally, your homeownership status might impact your loan options

Rent out your first house

After acquiring your second property and moving in, it’s time to rent out your first property. You’ll need to choose between managing it yourself and hiring a property manager.

If you opt for a property manager, you might not be too involved in the next steps. But if you’re managing the property yourself, you’ll likely need to advertise the property, screen tenants, create a lease agreement and handle all the other paperwork involved.

Pros and cons of renting out your home

Every financial decision has advantages and disadvantages. Below is a look at both potential sides of the situation.

Pros

• Additional income stream: When tenants move into your property and start paying rent, you’ll have an extra income stream.
• Wealth-building tool: As you pay down the mortgage with the rental income, you'll build equity in the home. Also, the home itself may appreciate in value over time.
• Tax advantages: Rental properties can come with some tax advantages, including the ability to write off certain expenses. Consult a tax advisor for more information.

Cons

• Property management logistics: Managing a property often takes time and money. For example, repairs, maintenance and tenant issues can represent a hassle for property owners.
• Financial risks: When taking on two mortgage payments, you’ll increase your financial risks. If the property doesn’t generate the expected income, it could be tight to keep up with the extra payments.
• Lack of liquidity: Although you’ll likely build equity in the rental home, that value can be difficult to access unless you sell the property or take out a home equity-based loan.

Alternatives to buying a second home and renting out the first

Buying a second home and renting out your first is one option, but not the only one. Here are some potential alternatives.

Selling the first property

If you sell the first property, you can use the funds to purchase an even more expensive home or to increase your down payment, increasing the equity and amortization rate. For those who don’t want to deal with the hassle of renters or maintaining two properties, this could be an option worth pursuing.

Purchasing a multi-unit property

Managing renters without being on the property comes with a unique set of challenges. One way to avoid some of those is to purchase a multi-unit property and live in one of the units yourself. This allows you to keep a closer eye on the property while being accessible to your tenants for any potential issues that might come up.

Refinance and invest

Purchasing more real estate isn’t the only way to invest in it. If you’re interested in diversifying your portfolio, you could always consider tapping into your equity through a cash-out refinance,ec-refinance-hl000061 home equity loan or home equity line of credit (HELOC). You could use either product to upgrade your first property or pursue investment opportunities unrelated to real estate.

FAQs

What is the 30/30/3 rule for homebuying?

The 30/30/3 rule suggests spending no more than 30% of your monthly income on housing, saving up in cash or low-risk assets equal to at least 30% of your home’s purchase price and spending no more than three times your annual income on the home purchase.

How many rental properties to make $5,000 a month?

The number of rental properties required to make $5,000 per month varies based on the situation. For example, it might take five properties with cash flow of $1,000 per month or two properties making $2,500 per month.

How long should you live in a house after buying?

The right amount of time varies based on your unique situation. You’ll need to get in touch with your mortgage lender to find out about any loan-specific residency requirements.

In summary

Buying a second property and renting out your first one presents an interesting opportunity. However, this choice comes with some financial risks and property management logistics. Before you start down this path, weigh the advantages and disadvantages for your unique situation.