Sales of vacation homes have been rising sharply lately. Across the country, the number of vacation homes sold last year was up 30% from the year before, according to the National Association of Realtors. Vacation homes now account for 13% of all home sales. The median price last year was $168,700. Interestingly, most vacation home buyers are under age 45.
Many people have long dreamed of owning a second home, but buying one can seem like an overwhelming task. One solution to addressing that task, both with regard to the time invested and financial risk, is to join forces and invest with friends or family. This can be an ideal solution – you get to use the home for part of the year, just as you planned, but the costs can be shared and risks reduced.
Before you take the leap, it’s important to think through everything that will be involved, and what will happen if something goes wrong. You’ll want to have a frank conversation with your partners and draw up an agreement that covers all the bases – a kind of “real estate prenup.”
Here are some things you’ll want to take into account:
What will you use the home for? Are you primarily interested in using the home yourself as a getaway, or renting it for income? You’ll want to be on the same page about this right away, so you don’t wind up disappointing someone’s expectations.
How will the time there be shared? This is critical, and you need a plan. The problem is that it’s often hard to work things out in advance and set a schedule in stone, because everyone’s needs will change over time.
If a brother and sister are sharing a property and they both have small families, the conflicting needs of the families might not be an issue at all. But if four or five families are splitting a home, there are bound to be schedule conflicts, and it can be good to have a formal system. Some co-owners have created an online spreadsheet on which they can sign up for use of the house. Some randomly assign weeks at the beginning of the year, with the owners being allowed to trade and barter among themselves.
This type of system can be tweaked depending on your needs. For instance, all the owners might be guaranteed a certain number of weeks during the peak season, or families with children might be given priority during school vacations.
You’ll also want to consider whether owners who spend more time at the property should also contribute more to maintenance, insurance and utilities.
Who – or what – will own the property? Good question for the attorneys(!!) Often, the best solution for property ownership with friends and family is a limited liability company. An operating agreement will be drafted to establish the rights and obligations of the “members” in the LLC. An LLC can help with protection from creditors, and can make it easier to sell or give away an interest in the home. (On the other hand, it might limit your ability to deduct mortgage interest on your taxes.)
What happens if someone wants to sell? This is a critical question to address in the Operating or Partnership Agreement. Even if your best friends plan to keep the home forever, they could suffer financial problems and need to back out. Since it can be hard to sell a fractional share of a home, many agreements provide that every few years, the co-owners will each have the option to force a sale of the entire property. Another idea is to give the other owners a “right of first refusal,” which means that if someone wants to sell their share, the other owners have the option of buying that person out. Obviously, you want to avoid co-owning a home with strangers or people you don’t get along with.
How will expenses be handled? While it’s possible for owners simply to contribute money for repairs and other expenses “as needed,” this can lead to a lot of confusion and even conflict. In most cases, the better method is to have owners contribute a fixed amount of money on a regular basis that can be used to pay expenses.
It’s a good idea to have a separate bank account for the management of the property, which is especially easy if the property is owned by an LLC. A separate bank account will minimize issues over who owes what and who paid for what. And if you plan to rent the property to generate investment income, a separate account will make it much easier to track expenses and profits for tax purposes.
If you’re planning to use the property to generate income, you’ll want to establish some rules about when the profits can be withdrawn from the account versus being kept there to pay future expenses.
What about routine maintenance? If maintenance is going to be a significant issue – perhaps because no one lives close enough to the property to take care of things as they arise – then it might be wise to consider hiring a management company. But even hiring the management company and overseeing its work is a task that must be allocated among the members or partners.
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