Owning a vacation rental can be a profitable way to make money from an investment property or a second home in a popular tourist destination.
Depending on the market, a vacation rental may earn even more than a long-term rental property. You also don’t have to screen tenants or worry about missed rent payments or the possibility of having to force an eviction.
Here are several points to consider and the best platforms to buy vacation rentals.
Table of Contents
- What Is a Vacation Rental?
- How to Buy and Invest in Vacation Rentals
- Potential Return on Investment
- Local Vacation Rental Property Laws
- Is It a Good Location?
- Property Condition
- Property Management
- Business or Leisure Travel?
- Dual-Use Property
- Best Way to Buy Vacation Rental Property
- Pros and Cons of Buying Vacation Rentals
- Final Thoughts
What Is a Vacation Rental?
A vacation or short-term rental property usually offers rental periods of less than 30 days to a single guest. However, some cities have a shorter maximum rental period.
Your vacation home can be a full-time investment property or a second home that you rent when you’re not staying there. Vacation rentals compete directly with hotels and bed and breakfast establishments.
How to Buy and Invest in Vacation Rentals
As you compare investment properties, you should incorporate these factors into your research process.
Potential Return on Investment
Vacation rentals are an exciting alternative investment, as you can enjoy annual returns that rival the stock market while owning a tangible asset.
Here are several metrics you should be aware of to ensure a positive return on investment.
Many investors measure the capitalization rate (cap rate) to estimate an initial profit. Many consider a cap rate above 5% as a good return and an 8-12% cap rate as ideal.
To calculate your cap rate, divide your net rental income by the purchase price.
Formula: Cap Rate= Net rental income (gross income-expenses) / purchase price
The cap rate is easier to estimate if you’re planning on buying a current short-term property, and the current owner can provide an income history and typical expenses.
Gross yield lets you know what rental income you can earn before expenses by measuring your revenue for the previous 12 months before expenses and taxes.
After tallying your total annual rent, you divide it by your property purchase price. This percentage is the gross yield.
This estimate lets you make an initial budget to determine how much income you have to allocate for property taxes, repairs, utilities, mortgage payments, and incidentals before dipping into your cash reserves.
If you’re targeting a minimum gross yield, you also know how much money you must earn each month. That means you know how much to charge per night during the peak, shoulder, and off-peak seasons.
Formula: Gross Yield= Total rental income/purchase price
If you’re using leverage to buy a property (i.e., a mortgage or debt), the cash-on-cash return can be a vital cash flow metric.
With this calculation, your net annual income deducts your expenses and loan payments but excludes your property taxes. This measurement is your pre-tax cash flow.
Next, you divide your annual pre-tax cash flow by your down payment (total cash invested).
Formula: Cash-on-Cash Return= Annual pre-tax cash flow / total cash invested
Seeing how frequently a unit is occupied serves several purposes:
- Estimate your annual income
- Identify the busiest travel times
- Compare rental frequency to competing properties
While you will most likely charge the market rate to remain competitive with other listings, you can use this data to collect a higher nightly rent during the peak travel weeks.
Consider This: Arrived makes it easy to figure out your potential investment returns. The crowdfunding platform lets you invest as little as $100 into a single property. In addition, each listing has a calculator to list your hypothetical returns based on the property’s recent rental income and property appreciation.
Local Vacation Rental Property Laws
More communities are enacting laws that restrict the density of new short-term rentals or make it challenging for real estate investors to rent the unit full-time. This is because an influx in short-term rentals means fewer housing options for long-term residents and potentially higher rents.
For example, Austin, TX, only allows one non-owner-occupied short-term rental every 1,000 feet. A license is also required for all vacation rentals within the city, whether it’s owner-occupied, the owner is absent, or it’s in a multifamily development.
Another example is Lexington, VA, located in the scenic Shenandoah Valley, home to two of the nation’s best colleges. Currently, the city only allows owner-present rentals for up to 104 nights per calendar year and 45 nights when the owner isn’t present.
Additionally, if you’re planning to buy a home in a homeowner’s association (HOA), verify that the bylaws permit short-term rentals. Find out what current short-term regulations and permit requirements are on the book and if there is any pending legislation.
Is It a Good Location?
“Location, location, location” is also true for vacation properties. You will want to consider destinations with steady demand, such as a popular beach town or a mountain city.
Being near a bustling city district or famous landmark can also increase your occupancy rate. You may also try to be in an area that’s busy every season.
Realtor.com lists some of the most affordable vacation home markets in the United States with steady tourism demand.
A property inspection can help you verify that the current asking price reflects the home’s fair market value and any necessary repairs.
Depending on your budget and skills, you may also look for turnkey properties that are already furnished and don’t require renovations before you can accept your first guest.
Additionally, you must decide how to maintain and clean the property. Hiring a cleaning service and a property management company is the most convenient option for most, but there is a cost.
If you’re considering buying a short-term property in a rural area, you may struggle to find a reliable cleaning service. If you need to self-maintain the property between guests, you may want to consider if it’s the right property to buy.
You should purchase a home warranty to protect your appliances and systems. This coverage can be cheaper than paying for out-of-pocket repairs if you don’t have a preferred technician to fix a leaky sink, malfunctioning fridge, or an ineffective HVAC system.
Business or Leisure Travel?
You may also decide to cater to a specific traveler type that can be less likely to cause property damages or receive nuisance complaints from the neighbors.
For example, you may look for properties in a big city or near a convention center to be more likely to attract business travelers. However, you may need remote-friendly accommodations such as a workstation and fast internet.
Well-developed touristy areas are more likely to have rowdy tourist travelers than rural towns.
Some of the other property factors you may also wish to include to attract more guests include:
- ADA friendly
- Eco-friendly amenities
- Flexible cancellation policy
- Pet friendly
- Plenty of bedrooms and bathrooms
- Unique amenities (i.e., basketball court, beach access, hot tub)
- Updated and functional interior
- Well-stocked kitchen (i.e., stainless cookware, utensils, coffee, and tea)
Adding little touches can help you receive more positive guest reviews. In time, positive feedback makes potential guests more likely to book your place, and your property will rank higher in the search results on vacation rental websites.
You’ll need to determine if you plan on staying at the property periodically. If so, choosing a desirable floor plan for your travel needs is vital, along with having secure private storage inaccessible to your guests.
When buying a home with several investment partners, you must determine how to share the revenue and operating expenses.
Best Way to Buy Vacation Rental Property
Below are several platforms that can make buying an income-producing vacation property easy.
Arrived lets all investors buy fractional shares in vacation and long-term rentals across the United States. The minimum investment starts at $100, which is affordable and makes it easy to manage risk by keeping a diversified portfolio.
Recent offerings for individual properties are in these locations:
- Blue Ridge, GA
- Clearwater, FL
- Lake Havasu City, AZ
- Nashville, TN
- Palm Beach, FL
- Phoenix, AZ
Each listing includes the current rental income and property appreciation to calculate potential investment returns. The crowdfunded real estate platform has an average investment period of 5-7 years, but you won’t have to manage the property or coordinate repairs. For more information, read our Arrived Homes Review.
Why We Like Arrived
- Minimum investment as low as $100
- Managed properties
- Local market insights
Yieldstreet is an excellent platform for accredited investors looking for a suitable alternative investment. In addition, the service regularly offers real estate portfolios, including vacation properties.
Unaccredited investors can also invest through this platform with its Prism Fund. This managed investment vehicle has a $2,500 investment minimum and provides exposure to Yieldstreet’s art, commercial, real estate, and short-term note offerings. Check out our Yieldstreet Review for full details.
Investing directly in vacation rentals is still a new concept in real estate crowdfunding. While Fundrise doesn’t invest in full-time short-term rentals, you can earn passive income from single-family and multifamily properties.
Managed real estate portfolios (eREITs) only require a $10 minimum investment, although investing larger amounts lets you unlock advanced strategies specializing in dividends or long-term appreciation.
Additionally, high-net-worth investors can access priority support and exclusive investment funds for a curated portfolio. For more details, check out our Fundrise Review.
Why We Like Fundrise
- $10 minimum investment
- Managed portfolios
- Multiple investment strategies
We earn a commission from Fundrise partner links on WalletHacks.com. We are not a client of Fundrise. All opinions are my own.
Vacation Rental Websites
Several vacation rental websites offer an online marketplace that can be easier than hiring a realtor, sifting through the MLS listings for your desired market, or relying on word of mouth.
Some of the platforms to consider include:
Sites like Realtor.com, Redfin, and Zillow can also be used for comparative analysis. In vacation areas, plenty of listings are currently short-term rentals or converted into one.
Why We Like This Option
- Easily find active short-term rentals
- Platforms offer property management services
- Can purchase whole properties
Pros and Cons of Buying Vacation Rentals
Owning a vacation property may sound like a dream, but it’s not all sunshine and rainbows. Here are several pros and cons for you to consider before buying or investing in vacation rentals.
- Passive income: You can earn passive income from a second home or a full-time investment property. These investment returns can rival stocks and exceed interest-bearing savings accounts and CDs.
- Potential personal use: It’s possible to vacation at the properties you own in addition to earning rental income.
- Tax deductions: Earning rental income may allow you to deduct certain expenses on your tax return. These deductions help optimize your business income and minimize the ownership costs of a vacation home.
- Ongoing expenses and taxes: Real estate is a reliable income-producing asset, although there are several inevitable expenses, including management fees, taxes, repairs, and utilities. Other investments may require less upkeep and can have higher profit margins.
- Seasonality: It’s not uncommon for vacation rentals to be vacant during off-peak season. For example, beach houses can be relatively challenging to rent from Labor Day to Memorial Day when the weather is cooler and schools are in session.
- Local rules and regulations: You must abide by the community and local government guidelines for short-term rentals. These include occupancy restrictions, maintaining a minimum exterior appearance, and having a business permit.
Making money from vacation rentals can be less stressful than a long-term rental as you’re constantly turning over tenants. It’s also possible to stay at the property on your desired travel dates or between guests.
However, vacation rentals aren’t risk-free investments, and you must perform your due diligence to avoid a money pit or an unpopular location. You can also easily manage risk with crowdfunded vacation rentals to gradually scale into this investment idea.