Those without equity have little choice. And will have to borrow money to finance a second home abroad. If you do have own funds – privately or within a private limited company – you can consider investing your own money in the second home.

Which way of financing is most advantageous? And what does it depend on? This article was produced in cooperation with our partner ABN AMRO bank.

Deploying private assets

Are you using private assets (box 3) to finance your second home abroad? If so, you do not have to pay interest. But you will miss out on the net return after deduction of box 3 tax on these assets. The higher the return on your assets, the more it will ‘cost’ you in net terms to invest the assets in your second home.

Borrowing from the bank

Do you borrow from the bank? Then you don’t have to miss out on a return on your equity. But you do pay interest to the bank. Your second home and the loan are both in box 3. On balance, this does not change your assets in box 3.

Calculation example

Suppose you have a second home worth €500,000. We set the interest rate on a loan with the bank at 3%. And the tax burden on the equity in box 3 is 1.4%. The chart below shows the net cost of borrowing and the net return to be missed when investing your own money, depending on the return. Investing own funds is then more advantageous as long as the return is less than 3% + 1.4% = 4.4%. If the return is above this tipping point, borrowing works out more advantageous.

Dividend from BV

Are you director-major shareholder (DGA) of a BV in which you have accumulated assets? And does that capital have no specific destination (structurally)? If so, you could also use those assets to finance your second home abroad. Assuming the BV has freely distributable reserves, paying out dividends is then a possibility. Assuming 26.9% tax in box 2 (2021) on the dividend, the BV would have to pay out about €1.37 dividend, to get €1 net available to you privately. This means that you will therefore also miss out on the net return on about 1.37 times the amount to be invested in your second home. That is, the return after corporation tax and income tax in Box 2.

Borrowing from BV

Another option is to borrow from your own private limited company. Then the interest you pay to the BV will replace the return the BV would otherwise make on those assets. It depends on the return the BV would otherwise make whether this results in a higher or lower return for the BV. Again, on balance, your assets in box 3 do not change in this case.

Incidentally, if the total amount of box 3 loans of your own BV exceeds €500,000, this could have adverse tax consequences in the future (from 2023). That is, if the ‘Excessive borrowing from own company bill’ is introduced.

Calculation example (continued)

Suppose you can borrow at 1.5% from your own limited company and the limited company pays 15% corporation tax. And the tax rate in box 2 is 26.9%. The chart below also plots the lines of net costs / missed returns in case of borrowing from your own private limited company and financing with a dividend from the private limited company. Under these assumptions, financing with own funds remains most advantageous as long as the return does not exceed 4.4%. With a return above 4.4%, borrowing from the bank remains most advantageous.

Sometimes there is little or no private funds available. In that case, one should actually eliminate the green line (Box 3). In that case, the net costs are lowest when financing with a dividend from the private limited company, as long as the return on equity remains below around 2.5%. Is the return between around 2.5% and around 3.9%? Then the costs are lowest when borrowing from the BV. And at returns above around 3.9%, the costs are lowest in case of borrowing from the bank. At least, at the assumptions used in this calculation example. Changing the assumptions will affect the outcomes.

In conclusion

The most advantageous way to finance your second home abroad depends mainly on the interest rate at which you can borrow and the return you can achieve on your equity. Those who want no or little investment risk will have to settle for low returns. Deploying your own funds is then soon more attractive than borrowing. Even if you can borrow from your own private limited company.

The calculations above only compare the effect on Dutch taxes. A financing debt can lower the tax base for certain taxes abroad, for example for wealth tax and inheritance tax. Yet in many cases, a financing debt does not affect the amount of tax due abroad. Due to high capital gains tax exemptions, even without financing debt, you will in most cases pay no capital gains tax abroad. And due to the possibility of offsetting inheritance tax paid abroad against the Dutch assessment for inheritance tax, a financing debt often does not provide an advantage either.

Source: Financial Focus ABN