Vacation home as investment is growing in popularity

Nation's Housing

March 23, 2003|By KENNETH HARNEY

SPRING IS here, your stock portfolio is still under water, interest rates are at historic lows and homeowners across the country are emerging from their winter cocoons with vacation property dreams dancing through their heads.

New statistical research indicates that second-home investments are on the upswing, especially among homeowners who see them as a higher-yielding bet than mutual funds or certificates of deposit at 2 percent.

Second-home purchases aimed primarily at investment - rather than the more traditional seasonal getaway uses - have nearly doubled in the past three years, according to a new study by the National Association of Realtors in collaboration with EscapeHomes.com. Whereas just 20 percent of all second-home purchases in 1999 were intended primarily to generate investment returns, 37 percent of purchasers in 2002 identified profit as their top goal.

Thomas Beers, an economist for the Realtor association, defines investment purchases as those where the primary purpose is income potential both net rental income and long-term capital appreciation. Typically investment-motivated purchases focus on second-home properties that can be rented out for an aggregate six months or more every year.

By contrast, vacation homes - from condos to cabins at the lake - are generally purchased for seasonal use or used as weekend getaways and are only occasionally rented out.

Who are these new, investment-minded buyers? According to the realty association's national statistical sample of buyers, they represent the leading edge of a generational tidal wave of baby boomers, looking ahead to retirement and dissatisfied with alternative returns from their capital. The typical second-home buyer is 56 years old, married with no children under 18 years old at home, and is part of what economists term the mass affluent: average household income was $92,000 in 2002.

This demographic wave is nowhere near cresting, either. Enough boomers will enter their mid-50s - the prime second-home investment years - during the next 10 years to support construction of up to 150,000 new vacation homes a year, according to the realty association.

Much of the recent attraction of second homes, according to Beers, has been their superior appreciation gains compared with competing investments. Whereas many stock portfolios and retirement accounts have lost 25 percent to 35 percent of their value since 2001, the median values of homes have soared.

The most recent report from the federal agency that tracks resale values in 180 markets around the country suggested that the average home has increased in value by 38 percent in the past 60 months. Most of the prime second-home states - those with recreational and resort communities within a two- to three-hour drive of large urban population centers - have seen even higher appreciation. The National Association of Realtors estimates that in particularly good second-home areas, such as along the Atlantic Coast, some property values have doubled since 1997.

The survey found that 20 percent of second-home buyers specified rental income as their reason for purchase, up from 15 percent in 1999, and that 28 percent of buyers anticipated the property being converted to their retirement home at some point in the future. Such a conversion could have substantial tax-saving advantages, opening up the $250,000 and $500,000 federal capital gains exclusions for resale profits on primary residences to those buyers. Second homes do not qualify for the exclusions.

Nineteen percent of recent buyers said they were trying to diversify their investments, according to the survey, and 8 percent reported that they had extra money to spend. Some of that extra money, no doubt, came from refinancing their primary residences and pulling out cash. The Federal Reserve estimates that cash-out refinancing freed up $200 billion for discretionary purchases, including second homes, in 2002, as did $130 billion in new home-equity loans.

But before you rush out into the spring market with a wad of cash in your hand, keep a couple of sobering thoughts about second homes in mind:

Resale values of second homes tend to be far more volatile than those of primary homes, especially in the upper price brackets. Second homes are discretionary investments, and they are like the proverbial canaries in the mineshaft: When a regional or the national economy gets sick, second-home values suffer earlier and more dramatically.

Investment homes in resort or recreational areas entail complications that are rare with primary homes. Rental marketing and management can be costly enough to eat up those positive cash flows you had banked on.

Bottom line: Demographics and the economic outlook for second homes appear excellent this spring and well into the decade. But ownership could prove more challenging than you think.

Ken Harney's e-mail address is kharney@winstarmail.com.

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