Whether it’s a ski-in, ski-out chalet in the mountains, or a humble cabin on a ranch, a vacation home is an aspiration for many high-income medical professionals.  Our Hawaiian beach house experience has been perfect, except for the distance, maintenance, repairs, and monthly cost.  One way to help with the high price of owning and maintaining a vacation property is to rent it out.  Why not make money when you’re not using it?  Turning your vacation home into a vacation rental is a legitimate way to offset some of the costs associated with ownership, but it comes with some challenges.  We have rented out our vacation property over the past 3 ½ years and have learned some valuable lessons.  In this post, I will explore the pros and cons of renting your vacation property and discuss our financial results.  

    For an overview of vacation homes, please read the first part of this series, Our Vacation Home:  Dream Come True or Financial Nightmare?   In the third and final installment, I will discuss the tax implications of renting your vacation home.  

Using Your Vacation Home as a Rental 

     In my post, The Financial Realities of My First Rental Real Estate Property, I have already written about long-term rentals.  So, I will only talk about using your vacation home for short- and medium-term rental in this discussion.  Note that this is different than buying a property specifically as a short-term rental (STR), which is a subtle but important distinction.  In that case, you are purchasing a property with the intent to make money.  A profitable short-term rental may not be the right vacation home for your family.  Do you want to offset some of the cost of your dream vacation home by renting it out when you’re not using it, or do you want to occasionally use your STR when it’s not rented? 

Management     

     Unlike the recent short-term rental craze, renting vacation homes predates online platforms like Airbnb and Vacasa and has been common for decades.  Traditional vacation rental management companies in established vacation markets handle all aspects of your property.  Our property management company handles marketing, booking, maintenance, repairs, accounting, and guest management.  But they charge 20% of revenue as a management fee.  This is much more than the typical long-term rental property manager, so you have to consider the cost in your decision.  

          You can choose to have a local property manager or do it yourself.  This will likely depend on how close the property is to you and the price point at which you are renting.  The closer you are, the more self-management makes sense.  But understand that this is work that can change how you feel about your vacation home should it become oppressive.  The higher the price point, the more likely you will need a professional management company.  Those who can spend $20,000 – $50,000 a month to rent your home are more likely to use a broker than surf the net. 

Finances

     There is no significant difference in how to think of the finances of a STR as opposed to a long-term rental.  There are just more renters and more expenses.  You will spend more on advertising, cleaning, repairs, and management (time, money, or both).  Make sure you pay attention to local taxes, as some jurisdictions treat STRs like hotels when it comes to collecting taxes.  

     My philosophy is that we chose to buy a vacation home and now bear the resultant expenses.  Any money we can make to offset those expenses by renting it out is a welcome bonus.  I do not consider our vacation home to be an investment property.  

Taxes

     Federal Income Tax calculations for a vacation property can be quite complex.  The third installment of this series deals with Vacation Home Tax Considerations.  

hiking

Benefits of Renting Your Vacation Home 

Offsetting Ownership Costs

     This is the big one for most people.  If you can get the house rented enough, you can offset the cost of your use and perhaps even turn a profit.  We will discuss my property’s financials later.  

Potential Appreciation

      We purchased our vacation home at the end of 2020 when Hawaii was still in full COVID panic mode.  The state has a limited medical infrastructure, and they were rightfully wary of becoming overwhelmed.  There was little to no tourism at that time, which is the primary driver of the state’s economy.  

     We closed at the perfect time.  The COVID real estate boost caused by people moving and working remotely had yet to materialize.  Within a year, the market had rebounded and started to rise, leaving us with a healthy profit on the leveraged property.  If we sold, we could have made a 50% return on our large downpayment within a year.  We did not seriously consider it, but as a financially minded person, I was at least tempted, knowing that this would likely be the apex of ROI.  

Property Management 

     I believe this is one of the benefits of our family having a remote vacation home.  We are always tempted to do the work ourselves.  My wife manages our long-term rental properties in Texas, but it isn’t logistically possible in Hawaii.  A full-service property manager makes our lives much easier, even if it isn’t cheap.  Vacation homes in desirable locations typically rent for more than their long-term counterparts, allowing you to use property management even with the increased expense.    

Regular Use and Maintenance

     Homes are designed to be lived in and used, and it isn’t good for them to sit idle for 9-10 months a year.  So, having renters can keep your home’s systems running smoothly.  They can also alert you to any problems sooner than you might otherwise find out.  If you have a water leak, you certainly don’t want to find out six months after it started.  The same goes for termites, electrical problems, bug infestations, and roof issues.  

vacation rental

Drawbacks of Renting Your Vacation Home

Strangers in Your House

     I opened this article by describing a vacation home as a sanctuary from work and the stress of daily life.  Are you ok with multiple strangers using your oasis?  There is the psychological burden of not knowing what people are doing in your home and the practical burden of keeping your home rent-ready.  You may choose not to personalize your home or leave expensive decorative items on display.  When we leave Hawaii, we only have a small owner’s closet to keep our personal items.  These mental and physical constraints can affect your ownership experience.  

Your House Becomes a Small Business     

      Because we rent our vacation home, we always think of it in terms of money, which takes away the magic a bit.  We don’t go over the Christmas holidays because that is prime rental time.  If we can rent it for a large amount, should we go there for only ten days?  Even when we get an offer for a rental in the summer, it gives us pause.  Should we really pass up that much money so we can go?  Additionally, every repair, upgrade, and use of the property becomes a business decision.  We try not to think that way, but it’s hard not to think like a businessman when your vacation house is a small business.   

Regulations 

     You must know the current short-term rental laws of the city which you are considering.  You also need to examine the area’s political climate concerning STRs, as laws are subject to change.  On Oahu, there is a shortage of affordable houses and a powerful hotel lobby based in Honolulu.  When we purchased our home, there was an established 30-day rental law for short-term rentals. 

During the past three years, the government attempted to raise it to 6-months (which was voted down), then successfully raised it to 3-months.  Vacation homeowners sued and recently won the right to continue to use the property as a 1-month rental only if they purchased the home before the law changed.  Unfortunately, we bought the house in our personal name, not through an LLC.  This means that if we sell the property, the new owner will have to follow the new laws.  Buyers could maintain the 30-day rental status if we were selling an entity.  

Neighbors

     Most of our neighbors have been fantastic, but some don’t approve of short-term rentals.  Unhappy neighbors can be a problem, especially when you are thousands of miles away.  They can hassle your tenants, call the police for noise disturbances, and generally be a PITA.  

     In our case, the neighborhood HOA regulates who gets keys and who can use the private beach entrance.  They will not allow short-term renters to use this access.  Fortunately, we can access the public beach entrance through our backyard, so it doesn’t affect us.  Using our entrance is easier than walking to the private entrance anyway.  However, the point is that there can be hostility toward short-term rentals, and you want to know this before purchasing.  

Wear and Tear

     We have already discussed the benefits of regular use.  However, no one will treat your home as gently as you do, so there can be accelerated wear and tear.  To get top dollar, you generally must rent to large groups, as a couple is unlikely to rent for tens of thousands of dollars over the holidays.  A group of ten will be much more willing as they can spread the cost over several families.  

Ethical Considerations

     Home affordability is an especially contentious issue in Hawaii, and there is a fair argument that short-term rentals negatively affect people’s ability to buy homes.  However, ours is not a home at the average price point.  Virtually no one in our neighborhood is native Hawaiian, and I don’t know any that were even born there.  They are imports like us, who fell in love with the weather, water, and culture and wanted a part of it for themselves.  So, I believe the argument is moot in our neighborhood but not everywhere, especially for those buying multiple short-term rentals solely as an investment.   

beach house

Our Returns 

     To maintain some semblance of privacy, I don’t reveal my net worth or the price of our vacation home.  Therefore, I will work with percentages when discussing our returns.  This way, you can adjust to any property price you consider.    Assume that we purchased our vacation home for $1,000,000.  I will work out the rest of our actual numbers and translate them to our $1M example.    

Purchase Price $1,000,000
Down Payment $420,000
Loan Amount $580,000
Monthly Payment – Payment, Interest, Taxes, & Insurance (PITI)$3,642
Current Value (net of sales expenses)$1,195,915
Current Loan Value $539,210
Current Equity $656,705

     I used a 5% realtor’s fee and 3% closing costs to estimate the current value net of sales expenses.  I know a recent court case may impact realtor’s fees, but I always attempt to calculate my numbers conservatively.  Based on the current value, I have gained $195,915 relative to the one-million-dollar purchase price.  By contrast, had I invested the downpayment in an 80/20 blend of VSTAX/VBTLX during the same period, I would have gained $133,112.  There is also an opportunity cost to my principal payments, totaling an additional $4,383, bringing the total gain to $137,495.  

     So, all things being equal, I have done better with the vacation house than by investing the downpayment in securities.  However, not all things are equal.  Since I am using the house as a vacation rental, there are revenue and expenses associated with the property, which I have outlined below.  

     As you can see from the spreadsheet, I have lost money on the vacation rental every year.  These numbers do not include principal payments; I don’t view that as an expense.  Much of the expenditure was on needed repairs and improvements, which are already reflected in the increased property value.  These are still real expenses, so they must be included.  

     Relative to the $1M purchase price, I have spent $46,277 out of pocket to keep and maintain the property.  This brings down my total gain to $149,63.  So, I’m still slightly ahead of the theoretical securities investment ($137,495).  

     However, this doesn’t include my family’s personal use of the property, which currently totals an estimated $37,140 in relative value.  This heavily tilts the economics in favor of the vacation property.  More importantly, I wonder if we would have actually spent the money to stay in Hawaii for as long as we have the past few years.  

vacation home

Conclusion

 

     A lot goes into using your house as a vacation rental, emotionally, physically, and financially.  My family has no regrets.  The benefits of renting out our home have far outweighed the drawbacks.  Despite the cost, most benefits have been realized because we use property management.  If we had to manage the property ourselves from 3,747 miles away, we likely would have a different perspective.  

    Financially, we have come out ahead by buying this property, even when compared to investing in securities during the same time frame.  However, I fear that this is more a function of good timing than real estate acumen.  I don’t think this trend will hold up in the long term, but that’s ok.  The point of a vacation home is for the owners to use it; otherwise, it’s just another investment property. 

     I hope this post has helped you understand what renting out your vacation home entails and some of the financial aspects you may not have considered.  In part three of this series, I will discuss the tax implications of a vacation home.  If you haven’t yet subscribed, please do so now to avoid missing any future posts.