What flaws are in my $1M LTR-STR math

Question

Hey folks,

Thanks to this community, I was able to rent my LTR SFH down the street from my current place (in MA). I am considering an alternative when the lease is up - taking cash into 1 (or more) STRs.

My LTR was my primary SFH and is now a rental, I am targeting somewhere between $6900 (current rent) and $7750 (ideal, based on the Sell or Keep BP spreadsheet) per month. After a state average 3% vacancy rate and a 8.3% (1 month's rent) MA agent fee for an average 12-18 month lease, I'm assuming somewhere between a 9-11% fee on those rents annually, with capex and opex combined around $700-750/mo. My PITI from my very low 2.8% mortgage, taxes, and insurance adds another $4300/mo. All-in, I'm looking at cash flowing somewhere between $1250-2000/mo.

The major inflection point that is having me reconsider is a recent stagnation (after massive appreciation) in the home value with a thin cash flow yield.

I purchased in 2020 for $920k at the start of Covid and it has risen to $1.5m - but has flat-lined for over a year. With the tax-free gain of $500k on a $500k remaining mortgage, I'm considering taking the $1m of tax-free cash and buying some STRs with my LLC as follows:

Research indicates 3-5 BR SFH are best near Jay Peak or North Conway, so I could probably acquire x2 STRs with that cash and projecting (based on AirDNA):

BALANCE SHEET ($/yr)- INCOME-- TOTAL (annual revenue target): 100k (assuming low end of STR math from this website) - EXPENSES-- taxes = 1% (NH) + 2% (VT) = 15k-- insurance = 0.25% = 2.5k -- PM fees = 20-40% (I'm seeing a wide range - anyone have comps?) = 20-40k-- Capex (target 1% of capital) = 10k-- TOTAL = 47.5-67.5k- CASH FLOW (YIELD) = 32.5-52.5k (3.25-5.25%)

Based on that math, it's considerably better/higher yield to switch to STRs compared to the $15-24k cash flow in my LTR. Not to mention no mortgage, appreciating assets with 100% bonus depreciation via BBB I can deduct off my high W2 income, and STR tax treatments on my high W2 income (I plan to hit the 100 hr time limit / yr that's higher than the PM hours).

What am I missing? What is flawed about my calculations? What further research should I be doing?

John Underwood · Answer

I have several questions before I can read further.

1. 3% vacancy rate average for your entire state?  Where are you getting this data?

2. What year did you convert your primary residence to a rental? You have to have lived here for 2 of the last 5 years when you sell for the capital gains to be tax free.

3. I'm not seeing costs for furnishings or utilities or lawn care etc. just a 10k capex for repairs.

Collin Chan · Answer

We went from LTRs to STRs and learned alot.  Consider all expenses:

1) Cleaning fees are included into Airdna possibly and depending on the size of your house and number of turns (guests) per month could be $2000/mo easily

2) Transitory taxes in the state where we operate are about 13.5%.  So you will need to add that as an expense if it's not factored in

3) Utilities/services can add up especially if you add pest control, spa servicing, etc.  Management fees from my experience are 20-30% so maybe if you've seen up to 40% they cover utilities for you?  The 20-30% don't typically cover utilities.

4) STR insurance is higher than LTR so make sure to get a couple quotes for more accurate pricing.

Collin

Andrew Steffens · Answer

To me as a PM/Agent in FL with many out of state clients, the best clients are those not buying because they ran numbers down to the tenth of a point.  STR's can and often do make solid investments but with many more moving parts than LTR's the numbers will fluctuate a lot more year to year.  Most of my clients own for reasons such as desire to have a second home in FL, tax depreciation benefits, or a combination of similar factors.  Their cash flow fluctuates from month to month and year to year and they do not mind because they enjoy it and they are not analyzing it to the tenth of a percent where they could have invested in LTR, or index funds, etc.  You are not doing anything wrong at all, I am just pointing out that the happiest clients I have tend to have different motivations.

Allan C. · Answer

You're doing detailed math based on a lot of assumptions. Take a step back and look at this fundamentally.  Have you considered why STR yields are higher than LTR yields? It's due to extra effort and risk - is the extra effort ant risk worth it to you?

You know what other yields look great on paper - section 8 rentals.   don't just chase paper yields - that's a recipe for disaster. Try to understand fundamentals of why something gives higher yield than another (risk, effort, barrier to entry).

You have the best competitive advantage of low interest rates. Do the math on giving that up. $500k capital gains exclusion is a great benefit, but you're also on a short fuse to sell if you've already been renting it.

Looks like you got a low LTV at purchase, so you do have a lot of trapped equity. I agree with selling it to get, but don't get caught in the STR trap.

Allan C. · Answer

if it were that easy everyone would be doing it. There are limited barriers to entry in real estate, so good margins will get competed away over time. i'm challenging your thinking as you're being overly optimistic with all of your assumptions.

Andrew Steffens · Answer

Then it sounds like it might just be a good idea!

V.G Jason · Answer

Depends how good your current location is. If it's superior, I'd keep the golden goose, don't "diversify" into singles. It's wealth destruction.

Yes, Boston has consolidated. That's normal, the line doesn't go up and to the right forever.

RE is a term game, if anything this means try to buy another with someone trying to bail if you have the means too.

What flaws are in my $1M LTR->STR math

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