A second or vacation home is just that. It is an alternate property separate from your primary residence where you get away to vacation and relax. It can be a 3rd, 4th or even a 5th home for some in different parts of the world. These properties can be single family homes, condos or townhomes, cabins, farms and ranches. I will explain a few other types of properties, such as time shares and fractionals, destination clubs, resorts complexes and condo hotels or condotels, in separate blogs.

If you are in the market for a second home, congratulations! Not only can you look forward to having a place to relax, you can also garner some tax benefits for that place at the beach or in the mountains. Below are several tax breaks you can use:

Mortgage Interest

If you use the place as a second home, rather than renting it out as a business property, the interest on the mortgage is deductible just as interest on the mortgage on your first home is. You can write off 100% of the interest you pay on up to $1 million of debt secured by your first and second homes that was used to acquire or improve the properties. (That’s a total of $1 million of debt, not $1 million per home.)

If You Rent the Home

Lots of second home buyers rent their property part of the year to get others to help pay the bills. Very different tax rules apply depending on the breakdown between personal and rental use. You are allowed to rent the house for no more than 14 days during the year. You can pocket the cash tax-free. Even if you are charging  $10,000 per week, the IRS doesn’t want to hear about it. The house is considered a personal residence, so you can deduct mortgage interest and property taxes just as you do for your principal home.

Tax-Free Profit

Although the rule that allows home owners to take up to $500,000 of profit tax-free applies only to your principal residence, there is a way to extend the break to your second home. Make it your principal residence before you sell it. That’s not as wacky as it sounds, nor is it as lucrative as it used to be.

Some retirees, for example, are selling the big family home and moving full time into what had been their vacation home. Before 2009, this had a very special tax appeal. Once you lived in that home for two years, up to $500,000 of profit could be tax free, including appreciation in value during the years it was your second home. A few years ago though, Congress cracked down on this break for taxpayers who converted a second home to a principal residence. A portion of the tax gain on a subsequent sale of the home is ineligible for the home-sale exclusion of up to $500,000, even if the seller meets the two year ownership and use tests. The portion of the profit that subject to tax is based on the ratio of time after 2008 when the house was a second home or a rental unit to the total time you owned it.

This can still be a great deal if you’ve owned your second home for many years before the law changed. Let’s say you have owned a vacation home for 18 years and make it your main residence in 2014. Two year later, you sell the place. Since the five years after 2008 the place was your second home (2009 through 2013) is 25% of the 20 years you owned the home, only 25% of the gain is taxed. The rest qualifies for the exclusion of up to $500,000.

As always, please consult a Tax Professional before making any decisions.