Principal residence, second home, or investment property?

"Occupancy" refers to how you will use the property you plan to buy. Will it be your principal residence, second home, or investment property? 

Whether or not you will live there can significantly impact your down payment amount, mortgage interest rate, and monthly payment.

What is a principal residence?

A principal or primary residence is your home. It's where you live, spend most of your time, and consider your permanent address. Lenders sometimes call it your principal residence or owner-occupied property.

Lenders view owner-occupied properties as lower risk. Loans for primary residences come with lower interest rates and down payment requirements compared to vacation and investment properties.

The following table compares down payment options for a primary residence.

• Down Payment | How much for a down payment on a house?

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The property and loan type are the most critical factors determining the minimum down payment.

Property type: Your primary residence can be 1 to 4 units. A one-unit property is a single-family house, townhome, or condominium. A 2-to-4-unit contains two, three, or four separate homes within one building.

• 2-to-4-Unit Home | How to buy a multi-unit property

Loan type: The most common types of mortgage loans are Conventional, FHA, VA, and USDA.

What is a second home?

A second home is a property you use for recreational or vacation purposes. Although you live there part-time, it isn't your primary residence. You may spend weekends, holidays, or vacations at the property.

Lenders view second homes as potentially riskier than primary residences because borrowers may prioritize payments on their primary residences in case of financial difficulties. As a result, lenders may be more cautious when underwriting loans for second homes. 

How much is a down payment for a second home?

The minimum down payment for a second home is 10% of the property's purchase price.

Down payment minimums can vary depending on the type of mortgage loan, your credit history, and the lender's specific requirements. However, when using a standard conventional conforming mortgage to buy a one-unit property, the minimum down payment is 10%.

You can't use FHA, VA, or USDA loans to buy second homes. These government-backed mortgage programs are for purchasing and refinancing owner-occupied properties only.

However, you can use a conventional loan to buy a second home if it's a one-unit home, such as a single-family house, condominium, or townhome. 2-to-4-unit second homes are ineligible for conventional financing.

Can I rent out a second home?

Short-term rental agreements, like Airbnb, are perfectly acceptable for second homes.

A second home must be available for your personal use for at least six months per year. You can't have a long-term lease agreement with a tenant, use the property as a timeshare, or grant a rental agency control of your vacation home.

Getting approved for a second home mortgage can be more challenging than qualifying for a mortgage on your primary residence or investment property for two reasons.

1. Lenders count your primary and second home expenses when calculating your debt-to-income ratio (DTI). 

2. Lenders don't count the short-term rental income you may receive from the second home. You can't use the future rental income to offset expenses as you can with an investment property mortgage.

What is an investment property?

Investment property refers to residential real estate you purchase to generate rental income, capital appreciation, or both.

Unlike primary or second homes, investment properties are rented out to tenants, making them a source of income.

Mortgage terms for investment properties often require a higher down payment and interest rates than primary residences. Nevertheless, depending on the circumstances, you can use the future rental income from an investment property to help you qualify for the mortgage.

• How future rental income can help you buy an investment property

There are specific tax considerations for investment properties, including deductions for mortgage interest, property management expenses, and depreciation. Investors should consult with tax professionals to understand the tax implications.

How much is a down payment for an investment property? 

The minimum down payment for a one-unit, single-family house, townhome, or condominium investment property is 15% of the purchase price. For 2-to-4-unit properties, the down payment increased to 25%. 

You can use a conventional loan to buy an investment property. Lenders require a 15% down payment for a 1-unit investment property and 25% for a 2-to-4-unit.

You can't use government-backed mortgages to purchase investment properties. FHA (Federal Housing Administration), VA (Department of Veterans Affairs), and USDA (U.S. Department of Agriculture) loans are for primary occupancy only.

Why are mortgage rates higher for second homes and investment properties?

Mortgage rates are typically higher for second homes and investment properties than primary residences due to increased risk factors associated with these properties.

Default rates are higher on second homes and investment properties, meaning that vacation home and rental property loans are riskier for lenders.

Lenders know that if you fall on hard times and need to miss a payment or two, you'll pay the mortgage on your principal residence first and are more likely to miss payments on your second home.

Lenders charge higher interest rates for mortgages on second homes and investment properties to compensate for this increased risk.

How do lenders know if a property will be a second home or investment?

Lenders use a combination of information and their assessment to determine whether a property is a primary residence, second home, or investment property.

First, lenders ask whether you will occupy the property as your primary residence on the loan application. They expect you to provide accurate and truthful information about your plans for the property.

Then, the lender's underwriter will consider whether the stated occupancy makes sense, given the information on the application and supporting documents. Underwriters consider the type of property you buy, its location compared to your primary residence, and if you own other properties.

It would be best to be honest and transparent about your plans for the property during the mortgage application process, as misrepresentation of the property type or its intended use can lead to legal and financial consequences.

After the underwriter approves your mortgage application, you finalize the mortgage when you close. At closing, you sign documents, including a loan agreement and an occupancy affidavit confirming your occupancy intentions.

Can I buy an investment property as a primary or second home?

You cannot buy an investment property and represent it as your primary or second home to obtain a mortgage with favorable terms.

While you might be tempted to misclassify your home’s occupancy status, it’s not a risk worth taking. A lower down payment, interest rate, and monthly payment sound great, but passing a rental property off as your home could cost you far more than you’d save in the short term.

Mortgage lenders have specific criteria and requirements for primary residences, second homes, and investment properties. Misrepresenting the property's intended use can lead to legal and financial consequences.

Based on your loan agreement signed at closing, you must move into your principal residence within 60 days and live there for at least one year. As part of regular quality control measures, mortgage companies check up on at least 10% of the loans they close.

Misrepresenting your occupancy is a fraud—there's no way around it. If your lender finds out you lied about living in the property, they can demand full repayment of the mortgage loan based on this fraud. If you can't immediately repay the loan, your lender can proceed with foreclosure on the property.

So again, being honest with your lender will always result in the best long-term outcome for your loan.

To avoid any risks associated with misrepresenting your occupancy, ensure the information you give your lender is true and accurate. When you've been approved for your loan and are gearing up to move, update your address with your bank, employer's human resources department, utility companies, USPS, and DMV.

A lender may contact you to verify your occupancy and ask for documents like paystubs, bank statements, an electric bill, or an updated driver's license. Updating your address through these channels will provide the paperwork you'll need to prove where you live, should anyone ask.

Based on the terms of the loan agreement you sign at closing, you have to occupy a principal residence within 60 days and reside there for at least one year. After one year, if your plans have changed and you want to convert your principal residence to a second home or investment property, contact your lender to inform them beforehand.

The lender may not ask you to verify your occupancy. But it's better to be prepared because so much can hinge on your ability to verify the property's occupancy.

More about mortgage occupancy requirements

• Fannie Mae occupancy types
• Freddie Mac conforming mortgage loan-to-value requirements
• FHA property ownership requirements and restrictions
• VA loan occupancy requirements