Buying a vacation rental property is an incredible way to invest in real estate, offset some homeownership expenses, and enjoy your favorite vacation spot as a second home. These properties can generate high rents, but they are seasonal and have high operating and maintenance costs. Learning how to invest in vacation rentals will require in-depth knowledge of local markets, financial calculations of income and expenses, and an understanding of the real estate buying process.
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Here’s a breakdown of how to buy and manage a vacation rental property in seven steps and the pros and cons of purchasing vacation rental property:
1. Research Vacation Spots & Narrow Down Potential Locations
The most convenient method to find vacation rental investment properties is to conduct an online search on real estate listing sites like Zillow and Realtor.com or contact a local real estate agent. However, you might already know where you want to buy a vacation home—near the coast, on a lakefront, in the mountains, or popular travel destinations, for example.
Before buying a vacation rental property, evaluate factors like the rental market conditions, employment rate, weather, proximity to specific amenities, and location demand to know if owning a vacation rental property in that area is a good investment. So, once you’ve narrowed your search to one or two potential locations, it’s time to dig deeper into the market and demand. Examine the vacation trends and property types influencing a specific area. You can ask yourself the following questions:
- Would tourists like to take a break in this area?
- What types of attractions are nearby?
- How does the location’s popularity peak and fluctuate throughout the year?
- Is there sufficient and consistent demand for a vacation rental in the area?
While you must consider the financial aspects of a potential vacation rental property, you cannot overlook the fact that the property must be in a pleasant, accessible, and desirable location to attract visitors easily. In addition, consider the type of vacation rental property or second property you would like for yourself—bungalows, cabins, chalets, condos, homes, townhouses, or villas.
2. Calculate Expenses & Potential Monthly Income
After you’ve chosen a location and found a few properties that are feasible for your budget and meet your needs, calculate whether you’ll be able to make any money from your property. Remember that areas with high tourism tend to have higher property values but also higher rental income potential.
Ensure that you can afford the vacation rental property, and always examine the costs of nearby vacation rentals and compare them to your monthly financing and operational costs. It will be easier to calculate your rental property income if you can get the occupancy rates for a vacation rental in that area.
Here are the basic expenses vacation rental purchasers should consider as well as how to calculate your potential monthly income:
Vacation Rental Property Expenses
Before calculating the federal deductions, ensure that you meet Internal Revenue Service’s (IRS) basic requirements for rental properties. First, you must rent your property for at least 14 days a year. This assessment of the 14-day rule for vacation rentals will determine whether your vacation rental property can be classified as a business. If you rent for less than 14 days, the IRS considers your rental property a second home, and some tax deductions will be invalid.
Second, keep track of the time you use your vacation rental for personal purposes. If you use your rental property for more than 14 days or 10% of the total time, you can only deduct a portion of your property expenses. Depending on the ratio of personal days to rented days, the IRS considers vacation homes to be either a business or an investment.
Here are the expenses that can be deducted from your vacation rental property:
- Property taxes: These are commonly tax deductible. Consult with your certified public accountant (CPA) to maximize vacation rental tax benefits. Property tax information is available online, usually on the property listing or through the assessor’s online database.
- Rental income taxes: These are due at the end of the year, but only if you rent the property for more than 14 days. If you are required to pay taxes, your rental income will be taxed at your ordinary tax rate.
- Occupancy taxes: A hotel or lodging tax varies by state and typically ranges from 1% to 15% per night. These taxes are usually charged to vacation rental guests, and if landlords rent their property through Airbnb, the company may collect the taxes from guests if their city has agreed to do so.
- Property insurance: Vacation rental insurance covers the risks associated with renting your property to others. It covers the structure, contents, and liability while also covering income loss. Annual vacation rental insurance costs between $1,500 and $2,500. Property insurance depends on the need and location of your property—it could be against hurricanes, mudslides, or floods.
- Homeowner Association (HOA) fees: You will be responsible for paying HOA fees if you purchase a condo or a home in a planned community with common areas. These fees are usually paid monthly but can also be paid quarterly. HOA fees cover grounds maintenance, landscaping, pool maintenance, trash removal, gate security guard, and the electricity and other utilities for common areas. If you rent the property, the fees can be tax-deductible.
- Utilities: Utility fees cover costs for heating, cooling, internet, electricity, and gas. Before purchasing a vacation rental property, you should get an idea of these costs from the seller and local utility companies. The prices will vary according to how you and your guests use the property.
- Management fees: If the vacation rental property is far from the owner’s primary residence, they may hire a property manager. Fees vary depending on the management company’s services. The average cost is 12% to 50% or more of the monthly rental income. They are higher than the average long-term rental fee of 4% to 10% because rental income is sporadic or seasonal. The property management company has more work to do with frequent tenant turnover, resulting in higher expenses.
- Financing costs: To finance your vacation rental property, you must include your monthly mortgage principal, interest, and private mortgage insurance (PMI) payments. You are not required to pay PMI if the property has 20% equity. Calculate the financing costs, which include the appraisal, loan origination fees, and closing costs.
- Licensing fees: Depending on the size of the property and the number of bedrooms, some municipalities require short-term rentals to have a vacation rental license, which typically costs $1,200 the first year and $600 each subsequent year.
Potential Monthly Income for Vacation Rentals
To calculate your potential monthly income, you’ll need the nightly rental rate, occupancy rate, number of days, monthly operating expenses, mortgage, taxes, and insurance fees. Use our potential monthly income calculator below to calculate your estimated monthly income for your vacation rental property.
Potential Monthly Income = [(Nightly Rental Rate) x (Occupancy Rate) x (# of days)] – [(Monthly Operating Expenses) + (Mortgage, Taxes & Insurance)]
Example: If your vacation rental has monthly operating expenses of $1,000, mortgage, taxes, and insurance are $2,500, and the nightly rental rate is $340, with an occupancy rate of 60%, here’s how you can calculate your potential monthly profit:
Potential monthly income = [($340) x (60%) x (30 days)] – [($1,000) + ($2,500)] = $2,620
In this example, the vacation rental property’s cash flow is positive for 30 days, and even if rented for only 18 days a month, would yield a $172 potential income.
However, note that vacation rental property revenue is frequently influenced by season. In the summer, a house near the water will be more appealing, while during the winter, a home near a ski resort will thrive. You need to know what to anticipate during the busiest times of the year and during off-season to ensure the property brings in the income you desire.
3. Consider Additional Factors About Your Vacation Property
A property is a solid asset with the potential to increase your wealth over time. That is why it is critical to consider the property’s capital growth, return on investment, and vacancy rates when selecting the right vacation rental property to invest in.
Consider the following factors to guarantee that your vacation rental properties are a good investment:
- Capital growth: Always be on the lookout for expanding areas in terms of population, the economy, and local infrastructure.
- Invest in locations you know: Familiarize yourself with potential vacation rental property investment locations. Learn everything about the area, from demographics to businesses to attractions.
- Return on investment (ROI): It’s important to buy where you won’t go into debt or get a negative cash flow. Keep tabs on rental yield trends when deciding on an investment rental property.
- Vacancy rates: Focus on a tight rental market for vacancy rates. Examine the most recent vacancy rate data for your preferred neighborhood; investing in areas with low vacancy rates reduces your chances of having an empty property between renters.
- Future developments: Learn about the future developments and plans in your preferred location. You can look for information on infrastructure project proposals on government and council websites. It’s also a good idea to keep an eye out for residential developments near amenities like schools, hospitals, and malls.
- Renters’ needs and wants: Choose a type of property that appeals to the people currently renting in your preferred area. It will also benefit you if a property has desirable features for the target market, such as proximity to public transportation, shopping hubs, and hot spots.
Read our Tips for Buying Your First Rental Property (+ Quiz) for some extra tips about buying your first vacation rental property. Also, take the quiz to see if you’re ready to be a landlord.
4. Get Financing & Close on the Property Purchase
If you find after your research that the property will be a profitable investment, you’re ready to move forward with the property purchase. You have several options for financing your rental property, but you should speak with a mortgage professional to figure out your best course of action.
Here are a few funding options you can choose for financing your rental property:
- Traditional vacation rental financing: This is the most common method of financing real estate investments. To begin, you will apply for funding for your vacation rental property through a credit union or bank. If your application is approved, you will make an initial or down payment and then repay the rest of the loan in monthly installments for 15 or 20 years.
- Conforming loan: This is a popular choice for vacation rentals because the qualification criteria are less stringent than those for a primary residence. A credit score of over 680 and a 20% down payment are required.
- Multifamily loan: This is used for vacation properties with two to four units or apartment complexes with five or more units. Multifamily loans have interest rates as low as 2.625% with terms up to 35 years. Portfolio loans, conventional mortgages, government-backed loans, and short-term multifamily loans all fall under this category.
- Short-term loan: A short-term loan is an excellent option for investors who need cash to buy a vacation home before securing long-term financing. This category includes both bridge loans and hard money loans.
Once financing is secure, the rest of the property purchase will be similar to that of a single-family or multifamily investment property. The seller and buyer will negotiate the price, the bank will clear the loan, and both parties will sign documentation to transfer ownership to the new homeowner and close the transaction.
5. Hire Operational Services & Software to Manage the Property
After finalizing the purchase of your vacation rental home, you have two management options: hire a property manager or manage the property yourself using property management software.
Hiring a property manager is an excellent choice as they plan and execute activities and understand what goes into routine, seasonal, and preventative maintenance. They keep property rentals in good condition by advertising and filling vacancies, negotiating and enforcing leases, and maintaining and securing premises. They also set rental rates by surveying local rental rates and calculating overhead costs, depreciation, taxes, and profit targets.
Create a checklist for rental property maintenance to streamline the process. The rental property maintenance checklist ensures that owners take care of their regular preventative maintenance tasks before they become emergencies and require expensive repairs.
For busy property owners, purchasing property management software is also an option. Property management software simplifies online rent payments. It eases landlord management of rental properties with its robust features like online marketing, digital lease signing, online rent payment, tenant screening, and maintenance tracking.
Here are the best property management software providers that provide the best features at an affordable price:
Free property management software for up to 75 units
Independent landlords seeking comprehensive property management services
Property management firms handling up to 5,000 units
Affordable paid subscription plan for property owners
Free; paid plans start at $12, monthly
Free; paid plan costs $5 per unit, monthly
$50 per month
Free; paid plans start at $4.92, monthly
If you’ve just started thinking about getting property management software and need more information before signing up, read our list of the Best Property Management Software.
6. Advertise Your Property Online
A vacation rental strategy is not complete without a place to advertise your property to vacationers. Start marketing your rental home on websites like VRBO, Airbnb, Booking.com, and HomeAway. Advertising your rental property to these platforms will help you gain more exposure, improving your occupancy rate and potential income.
Market your vacation rental properties through these widely known and used vacation rental property listing platforms:
Vacation Rental by Owner (Vrbo) is a website where rental property owners can post classified ads online. You can either manage your property yourself or hire a property manager to list on Vrbo.
It has a $499 annual subscription that includes Vrbo’s reservation manager and calendar, which aids the owners in keeping track of the guests and their stay duration.
Airbnb is a well-known vacation rental listing site that lets you list and rent your vacation property to tourists looking for accommodation alternatives. You can also create a property listing with a description of the property’s amenities, the number of bedrooms and bathrooms, and photos of the property, which helps to get the most exposure on your property listing.
Airbnb charges a service fee every time a booking is completed on the site. There are two fee structures for stays: a split-fee and a host-only fee. The split-fee structure requires the hosts to pay a 3% fee, and guest service fees are under 14.2% of the booking subtotal. On the other hand, with a host-only fee structure, the entire fee is deducted from the host payout, typically 14% to 16%.
One of the most widely used websites for booking travel is Booking.com. It draws millions of visitors daily, has more than 28 million listings worldwide, and provides 24/7 access in 43-plus languages on site.
Booking.com will help you feel confident with welcoming guests by allowing property owners to set house rules to which guests must agree before staying. Aside from this, it enables landlords to request damage deposits for extra security and report guest misconduct if something goes wrong. It protects against liability claims from guests and neighbors for up to $1,000,000 for every reservation.
HomeAway, which owns Vrbo, is a website that lists over a million homes in 190 countries. It operates on 50 websites in 23 languages, offering rentals of cabins, condos, castles, villas, barns, and farmhouses. The website is free to use and can be accessed on any device.
Users pay fees based on the property owner’s desired earnings for the time they stayed at their property—payments are predetermined before the stay is booked. Before booking, all amenities, appliances, stipulations, and additional fees are listed. The HomeAway website also has millions of reviews, helping site visitors decide where to stay.
7. Rent to Qualified Vacationers
Renter screening is essential in finding and choosing suitable and qualified renters for your vacation rental property. Follow these tips to make the best choice:
- Follow the Federal Fair Housing Act and each state’s Fair Housing laws
- Check and review the vacationer’s basic profile information, such as phone number, email address, “about me” section, age, vocation, and maturity
- Check for the social media account of the renter to confirm that they have a real identity
- Choose a renter with an “ID verified” badge
- Read the vacationer’s reviews
In addition, utilizing a revenue management platform like Beyond will help you boost revenue from your vacation rental properties. Users can manage pricing recommendations and calendars from a single dashboard by connecting their Airbnb, Vrbo, or other accounts to the system. The optimal price for the property is determined by the solution’s analysis of the listing’s health in consideration of various factors, including the neighborhood, local demand, and seasonality.
Pros & Cons of Buying a Vacation Rental Property
Many investors will ask themselves “is owning a vacation rental a good investment?” While owning a vacation rental property is often a pleasurable experience, there are some drawbacks that you must consider, like maintenance and management costs. So, if you’re considering investing in vacation rentals, here are the main benefits and disadvantages:
|A vacation property can provide an additional source of income||Whether the property is rented or not, you'll be responsible for utilities, maintenance, taxes, and property management fees|
|Rental income can help to offset property and vacation expenses||You might have to pay a property manager to oversee daily operations|
|You will be able to take advantage of tax write-offs||Vacation rental properties are typically hit harder during economic downturns because people often pass or lessen their vacation trips to save money|
|The property's value could skyrocket||Since vacation rental properties are seasonal and off-peak seasons generate lower per-night rent, cash flow can be inconsistent|
|You are free to use your vacation rental property whenever you want||Finding renters can be challenging, especially for new vacation rental property owners|
|Build your equity and wealth||Some cities and HOAs impose strict restrictions and regulations on short-term vacation rentals that you must adhere to|
To significantly impact your potential cash flow and investment, it is critical to carefully research and strategically purchase the right vacation rental property. Buying a vacation rental property can be both risky and rewarding. Therefore, use the above expert tips as a guide the next time you consider purchasing a vacation rental property as an investment.