I’ve heard it a million times, heck, I’ve even said it myself, “I am going to buy a house on a beach, and rent it out when I don’t want to use it. I get to go on vacation and tenants pay for it. Business combined in perfect unity with pleasure.”
Here is the musical version of what you may envision your vacations will look like:
Slow down there Jimmy Buffet, before you pull the trigger on your home away from home, let us run through the numbers as well as the qualitative factors that go into buying a rental/ vacation home.
The Math Behind A Vacation Home
Gross Income (Less Vacancy)
Be realistic here; often vacation homes rent on weekly or monthly terms and are very seasonal, this means you will experience a much higher vacancy rate than a typical apartment with a one-year lease.
-Commission/Management Fees
As with vacancies, you will need to account for higher rates of commissions since you will most likely have high turnover.
-Repairs/Supplies/Maintenance/Furniture
Due to the high turnover, as well as you being an out-of-state-landlord, don’t count on something as simple as a leaky faucet to be equal to the cost of the parts to fix it. You will need to pay for a repairman to go to the unit and fix the faucet. Don’t underestimate repair costs or assume that all tenants will be as handy as you.
Keep in mind that you will also need to furnish your unit, which will result in higher overhead costs as the furniture will wear out more often that if you were using the unit exclusively by yourself.
- Taxes/Utilities/Insurance/Other
These expenses will be very similar to if you were an in-state landlord.
When you sit down and run the numbers, does it still look like a pretty picture of palm trees and margaritas? Will this unit cost you money out of your pocket every year? Take the bottom line figure and divide it by how many nights you will be using the unit, compare this cost to what it would cost to rent a similar unit in the same complex.
Questions to Ask Yourself Before buying a Vacation Home
I hear a lot of people want to buy these vacation/rental homes so they can retire there when the place is paid off. In the mean time, they convince themselves that they are “locking” in today’s prices for future gain. I don’t know about you, but often times, I don’t know what I’m doing on my weekends. Forget peering into the year 2030 and ask me what state I will be living in. My point is that life happens and it is extremely hard to predict where you will be in the future. Think back to where you were in your life ten years ago, did you expect to be in your current situation a decade ago?
Is buying a vacation/rental home the highest and best use of your investable dollars? Would you be getting better return with your money elsewhere?
Do you want to lock your vacation time into this rental for the rest of your life? That trip to the Smokies, skiing in CO, relaxing on a beach in Hawaii? Consider those trips on hold because you will have a sense of obligation to go to your vacation/rental unit.
This article is not to say that you shouldn’t buy a vacation home. Just don’t buy on the grounds that you will be renting it out part of the year to justify your purchase.
Anyone have similar thoughts on this topic? Disagree? Leave me a comment.
If you have suggestions for topics you want me to cover in future articles, please let me know.
Thanks for reading.
Photo: laszlo-photo
{ 13 comments… read them below or add one }
Completely agree! I purchased a vacation home in Panama several years ago. While it may have gone up in value it’s not even close to cash flowing like the rental properties I own close to home. If you stay at your vacation home for a certain amount of time you may not even be able to deduct your expenses (check with you CPA for specifics).
Couldn’t agree more. Sometimes the nicest places end up costing a lot more than you imagine they would
I have been so busy this morning, but when I saw the topic I just went to the computer to check it out…
One of my “to do things” is exactly that.. since I have lived in hot weather, I have always dreamed of having a vacation home in the mountains… close to ski resorts, or just in the middle of nowhere…. This was assuming all the costs incured with this luxury, but since there is an option of leasing it… can it be possible to find such home in the mountains that for my purpose, breaking even would be more than fantastic.
Please anyone that has any experience with these kind of homes in cold areas near mountains like somewhere in Colorado or British Columbia please let me know!
Also is there any good mountain area near Texas with similar conditions?
Would appreciate any suggestions!
Thanks for the article
Great article Mark!
It’s funny, I wrote a similar article a few months ago on the same exact topic on my BiggerPockets blog: http://www.biggerpockets.com/blogs/2872/blog_posts/24097-are-vacation-homes-good-investments
The one thing you forgot to mention was depreciation, but otherwise you’re right on the money with the math behind owning a vacation home like this. I only keep mine to get away from work!
Best,
Dave
I know how depreciation affects your investments, but I tend to look at that as an secondary level of analysis. Aside from when you sell it and have to deal with depreciation recapture, depreciation on an annual basis can only help your after tax income. So I focus on the actual cash flows on the initial pass.
Mark:
We gave up our vacation home and it still makes me sad.
I love the mountains here in North Carolina. We found an amazing deal (after 2 1/2 years of looking) on a 2700 sq.ft. home outside of Asheville at 4400 ft. elevation (so plenty of snow) on the 9th tee of a gated golf course community. You couldn’t see the course because it was down the hill and through the woods. In fact, you couldn’t see anything but trees, mountains, deer, and the most amazing sunsets with our western view. It was a community of 500 homes on 6000 acres. AMAZING!
But, we can’t justify, as investors, anything that isn’t income producing. We did rent it out (golf course community and it’s own ski lodge…) and our goal was that it cover only 50% of our cost.
However, the bigger problem (for my husband, anyway) was that it was ours. What that meant was, every time we were there, he was fixing something, upgrading something, chopping wood, all kinds of stuff that a property needs when you’re only around a few days a month. So, it was work. And, did I mention, not income producing. And there are plenty of great B&Bs to stay in when we want to get away where we are waited on and have none of the responsibilities of home ownership.
So, my suggestion, rent when you want to play so it’s truly time off. And, like you said, there is an appeal when you can go anywhere anytime rather than always back to the same spot.
Thanks for the article.
We recently went skiing in Utah for a week. I gladly wrote the check for the vrbo rental knowing that when I left I never had to think of anything but the great times we had at the place (and not leaky pipes, broken refrigerators, and all the other home owner issues that may arise)
We bought a vacation home in Florida and love it. But that’s only because a) we got a town home for about $70,000 and b) we knew renting was out of the question. Local zoning laws forbid renting home homes in this area for less than 12 months except in explicit areas. The management fees in those areas require the unit be occupied half the year to break even. So, we bought a unit that was cheap enough (it was a shirt sale) that we could afford.
We love it. It’s great to go there for a month at a time and take the kids to Disney World. But it cost us probably $10,000 to fix up and furnish. We love it and use it there times a year. Just be ready to only do it if you can afford it.
Thanks for illustrating my point. You looked at this home as a vacation spot and not a money-maker/vacation spot. As long as you go into a vacation home for what it truly is and not a hybrid of what you want it to be, you’ll be very happy with your decision.
It is a great post.
In a session given by software entrepreneur Rod Johnson at http://www.infoq.com/presentations/Things-I-Wish-I-d-Known, he talks about some fundamental lessons he learned as built a $400 million business. In the talk he shares lessons he learned over the past ten years. It’s a good video for anyone forming any kind of business.
One big thing that stood out to me was his suggestion that you try and look at your money-making idea through a negative lens. Assume the opposite of what you think, and try to prove it true. We all suffer from confirmation bias and it can cost us more than a penny. Assume you WON’T make money, and see if you can prove it. Then, compare making with not-making, and try to measure the risk of either one.
If you don’t have the resources to afford the risk of NOT making money, then you probably shouldn’t buy.
Great article Mark. I bought my first beach condo in 1999 and used 1031 exchanges to move up to better locations with more amenities. I should have walked away in 2005 when I sold the second condo for over $100k gross profit. I wish I had read your article back in 1999!
Can’t look back to the past and fix what went wrong. Just keep moving forward. Realize the knowledge you gained from trading up in properties will greatly impact your future decisions in a positive way.
My vacation property makes me a lot of income, plan on buying more. I don’t buy vacation properties for myself and never looked at it like that, I bought it purely from a business standpoint and I’ve marketed and built the home with the vacationer in mind. Perhaps the problem is less to do with them being bad investments and instead merely bad managers of them.