David is the founder and CEO of Realizeda company whose mission is to improve lives through innovative property investment solutions.
Owning a short term vacation rental can be a potentially lucrative investment property to have in your real estate portfolio. For holiday homes in popular holiday destinations, short-term rentals can be an attractive alternative to hotels and provide guests with the feeling of home away from home while exploring a new city.
However, real estate with shorter leases, such as vacation properties or even hotels, may not be as favorable to investors as market conditions decline.
Inflation has been emergingand investors who own these short-term vacation homes may feel uncertain about what the future holds for their investments. While some may fear that a recession could lead to a drop in bookings, as wary consumers could cancel travel plans even if your holiday home remains booked, the cost of maintaining the property is likely to increase. Higher gas prices can lead to higher energy costs, and there can be higher labor costs for property management responsibilities such as cleaning and home repairs.
Changing legislation can also affect the future viability of your vacation rental. For example, a recent regulation in Atlanta allows investment property owners to own only two short-term rental properties in the city, and one of them must be considered their primary residence. It is estimated that approximately 4,000 short-term rentals will be out of order once this city ordinance comes into effect.
As you evaluate what to do with your short-term vacation rental, here are a few things to consider when determining whether it will meet your investment goals:
• Are you getting the rental rates and rates you want for the property? As inflation rises, rents and rents may rise in the short term, but consumers can only increase their spending that much. Expenditures for most Americans are on the rise (groceries, rent, utilities, etc.), and their budgets may need to be tightened. The amount they want to spend on a vacation now may not be the same amount they would have spent three months ago.
• Will you be able to use the property to justify the increased operating costs? Before purchasing a short-term vacation rental, you probably determined the ideal occupancy rate needed to make your investment profitable. Does this percentage still apply today? Do you need a higher occupancy rate to justify the higher costs of maintaining your property?
While the answers to these questions depend on individual needs and situations, it can be a smart move to consider whether now is the time to sell. Rising interest rates are beginning to slow home buying across the country, which can begin to create a buyer’s market. In the first week of June, mortgage demand fell to lowest level in 22 yearswhich represents a decrease of 21% compared to the same period a year earlier.
Falling buyer demand is likely to affect home prices. Fewer buyers in the market can lead to less competitive listings for sellers, potentially forcing sellers to lower their prices to regain interest in real estate to buy.
While this may be a less than ideal scenario compared to homebuyers even six months ago, one factor investment property owners should consider is whether the amount they receive for the sale of their property can help them achieve their financial goals. Ultimately, these are the criteria investors should assess if they decide they no longer want to own their short-term vacation rental.
For investors who decide to sell their rental properties, a 1031 stock exchange or Delaware Statutory Trust (DST) can provide ways to keep more of their real estate assets in their pocket. (Disclosure: My company helps with these solutions.) By using a 1031 exchange, investors can defer capital gains tax on the sale of their investment property, as long as they invest the proceeds in a similar property. One risk to consider with a 1031 exchange is the costs associated with a 1031 exchange and how those costs can affect returns.
If an investor doesn’t want to invest their proceeds in another rental property, they have other options, such as daylight savings time. DSTs offer investors the opportunity to invest in fractional ownership of commercial real estate across the country. This investment structure can provide investors with a passive source of monthly income and access to large commercial real estate such as office buildings, industrial facilities, apartment buildings and more. For DSTs, a potential drawback to consider is that they are considered an illiquid investment and typically have a holding period of 5-10 years (meaning that investors cannot withdraw money from the investment if necessary). Also, because they are professionally managed by a sponsor, the investor has no say or influence over decisions made regarding the property, which may be an adjustment for investors who can enjoy the hands-on approach.
Given the current market situation, there is no one-size-fits-all solution for investment property owners. However, by evaluating your investment goals and determining whether your current short-term vacation rentals meet your income goals and needs, you can create a plan for navigating the changes occurring in the current real estate climate.
Full disclosure. The information provided here is not investment, tax or financial advice. You should consult a licensed professional for advice on your specific situation.