Investors looking to purchase a second home are scrutinized more closely by the banks when applying for a second home loan. If you already have a first home loan – then you can expect to pay up to one-quarter to one-half point higher for your second home loan than on your first loan.

The good news is that investors who desire a second home loan are profiled as having a better portfolio that a single home buyer, which means that most banks are happy for the business.

What Options do you have for a second Home Loan?

At this time, with interest rates so low, many banks will ask you to take out a home-equity line of credit (also known as a HELOC) on your primary residence, to fund some or all of your second home purchase. This might be a good idea, but you should compare rates. If you have to repay your HELOC loan at a higher rate than you would getting a new loan for the entire amount, then it’s not a good decision.

If you do decide to move ahead with a HELOC, be aware that you will not be able to get a mortgage interest deduction on your second home loan. Rather, you will get a home-equity interest deduction, but this is capped at $100,000. A mortgage interest deduction is up to $1 million of debt on a first and second home combined.

And, if you think you can decide later to change your HELOC to a mortgage later, you will be surprised to find out that the IRS states that you have just 90 days from your purchase date to lock in a mortgage against a principal or vacation residence. If you don’t get a mortgage rate within 90 days then you will not be able to deduct your mortgage interest, if you should get this loan after 90 days. So clearly, you need to consider at the very beginning whether a HELOC is a wise decision.

What if you are buying this second home to rent it out? The lender will want to see proof that you are going to generate some cash flow. If this property has been a rental in the past, then they will want to see a cash flow statement showing it’s rental history. If this will be a first time rental, then an appraiser can help to determine the expected rental rates of similar homes.

Of this expected cash flow, the bank will only take into consideration about 75% - 80%. Banks want to be very conservative here, because they want to make sure that you are going to be able to pay back the loan and that you will want to pay back the loan.

Lenders look at three main areas when considering to offer a loan. These are:

1. Your down payment

2. Your Debt to Income Ration

3. Your Credit Score

As mentioned before, if you are buying a second home, you will probably have to put down a higher down payment for your second home loan. Down payments range from 10% to up to 50%. With a small down payment, the bank will probably require that you get PMI (private mortgage insurance) which will cost extra.

When considering the loan, you will have to show the bank the amount of debt that you owe. They will calculate your debt-to-income ratio. First, you add up all your debt including, your first home loan monthly payment, your estimated second home loan monthly payment, all other debt, like credit cards and other loans, etc.) Then you compare this number to your pre-tax income. Lenders look for a debt-to-income ration of 35% or less.

For a credit score, most lenders want a score of 700 or better.

A score of 660 for example could make it very difficult to get a loan for a second home.

From these pieces of info – the bank will tell you how much of a loan they will provide for a second home purchase. Then you will know what price range of home you can afford. Make sure you understand the terms of the loan. For example will it be a monthly payment, or will there be a balloon payment at the end of a specific date? Have the bank adjust the terms so that they fit with your budget. When you and the bank agree that you can afford the additional monthly payments then you are now considered “pre-approved” and can shop for a home.

You will find owning a second home, for rental, vacation or investment property will be an additional responsibility, but one that can increase your finances and provide more security down the road.