One reader asks:
“You talk a lot about rental property — but focus on tenants with traditional long-term leases.
I’d love to hear your thoughts on vacation property. Is this a worse/better investment? Short-term rentals at a premium price during a vacation season? Would you consider this a riskier proposition?”
Renting out a vacation home is one step away from running a hotel.
Your customers expect things that normal tenants would never ask a landlord for: clean towels, rolls of toilet paper, organized kitchenware. You’ll spend a lot more time responding to customer requests, cleaning during the “turnover” period, and scheduling check-ins and check-outs.
People will contact you to ask about availability, amenities, location, pet policy and other questions. A fraction of those people will decide to reserve the home, which means you’ll need to take a deposit (“Yes, we accept Visa”) and send them reservation paperwork. You’ll need to schedule the cleaning crew. You’ll also need to provide furnishings: couches, beds, tables.
The customers will call you at midnight to say their GPS can’t find the location, or the key isn’t at the designated spot, or to ask how to operate the thermostat. They’ll write reviews on Yelp saying the wireless internet is too slow or that the floorboards creak. You’re also likely to endure higher vacancy rates. And in the rental world, nothing is more expensive than vacancy.
You can hire property managers to handle the day-to-day hassles, but they’ll charge a LOT more than “normal” property managers. Many will ask for 50 percent of your income, and that rate is reasonable, since they handle so much more turnover and so many more responsibilities.
Treat Your Business Like a Business
Do I sound like a pessimist yet? That’s intentional.
When you’re contemplating an investment, start with healthy skepticism. Assume it WON’T make money and try to prove yourself wrong. This helps you avoid a massive mental trap: confusing ‘hopeful thinking’ with a business plan.
But now that we’ve practiced healthy skepticism, let’s move onto the pluses –
Vacation rentals (and their close cousin, extended-stay hotels) can be lucrative, if you buy the right place at the right price and manage it well. But I wouldn’t call it an “investment.” I’d call it a “business.”
“Uh, Paula, businesses are investments.”
Yes, but not all investments are businesses.
Some investments are totally passive. Just buy some S&P 500 Index Funds and ride the bull-market wave! Wheee!
Other investments, like owning rental properties, are akin to managing a business. You schedule inspections. You hire and fire plumbers. You spend an afternoon installing blinds. Even with a manager in place, you’re still the Chairman and CEO.
And that’s fine, because index funds and rental properties are two totally different ballgames. Just be aware of the differences from the first inning. Many businesses fail because of neglect.
Here’s the thing: If you want to quit your day job and run a business, you could enter the vacation rental field. Or start an ice-cream shop. Or open a pet food store. And you’d have to do all the due diligence related to the viability of that business in your place and time.
If the math works out, and you’re willing to put in the effort – go for it! Live like no one else for a while, so you can reap massive rewards.
But if you just want to own a beach house that collects rent when you’re not around, I’d seriously think twice.
Your Vacation is Not Your Business
I recently talked my parents out of owning a vacation rental. They wanted to buy a condo in Florida.
“We’ll vacation two or three months a year, and rent it out when we’re not there! The rent will cover most of the expenses! And maybe it’ll go up in value!”
I slapped my forehead. They were expressing code words for: “I don’t have a strategy. I want it all.”
“You’re waayyy better off buying a house in DeKalb County, Georgia, collecting an annual rent of 20 – 33 percent of its total purchase price, and using those profits to take a vacation,” I told them.
They were committing the classic error of emotional investing. They wanted to “feel better” about their vacation condo by thinking: “It pays for itself!”
Why Do You Want It?
So … are you looking at a vacation rental because:
#1: You want to buy a vacation house, and you’d like the emotional satisfaction of having the house pay for itself?
#2: You see a huge demand for short-term rentals, coupled with low rental supply and reasonable home purchase prices?
If your answer is number one, forget it. If your answer is number two, rock on! Awesome! Now we’ve got something to work with!
The next logical question is: After accounting for vacancies and management, which will take a HUGE chunk out of your bottom line, will you make more money on this property as a short-term/weekly rental, or as a long-term (traditional one-year-lease) rental?
Only a spreadsheet can answer that. Call a few property management companies to see what percentage of the rent they charge. Don’t assume you’ll go with the cheapest one. It’s better to hire a stellar manager than a doofus who you’ll have to micromanage.
Scout around on Craigslist, VRBO.com and airbnb.com to find the competition’s weekly rental rates. Poke around on Zillow and Trulia to discover purchase prices of homes.
Then create a spreadsheet with three different scenarios, each containing different vacancy, maintenance and repair estimates. The answer will quickly become clear.