The original American Dream will always be to own a home, but there’s a variation on that standard for 2020: the dream of owning your own vacation home. Platforms like Airbnb and VRBO.com revolutionized the world of vacation rentals, giving everyday homeowners an easy and relatively risk-free way to take advantage of the short-term rental market.
If one of your dreams is to buy a home and then rent it out short-term, then there are some things you’ll need to know before taking the plunge. An ideal vacation home typically doesn’t look exactly like a typical permanent residence, so you’ll want to make sure you’re considering all the potential pitfalls and maximizing return on your investment.
Buy a rentable home
Most people can’t afford two mortgages, or a mortgage and a rent payment. So if you aren’t going to be living in your new home in your favorite vacation spot year-round, then you will likely need to rent it out in order to afford the purchase at all.
Short-term rentals are usually the best way to manage this if you’d like access to the home yourself and don’t want to wait until your in-between long-term renters. But every area is a little bit different in its approach to short-term rentals (and some cities and towns have complete bans on short-term rentals), so you’ll want to do some research and make sure that short-term rentals are allowed in the place you want to buy, and that any restrictions are not too prohibitive for you.
For example, some cities and towns limit how frequently you can rent your vacation home, and some have no restrictions. In Telluride, Colorado, you can only rent your home out three times in one year, and not for longer than 29 total days. That’s decent extra income, but it’s probably not enough to cover the mortgage payment for the calendar year.
In addition to local laws and guidelines, it’s not a bad idea to look up similar-sized homes nearby on Airbnb or VRBO to get a feel for the short-term rental standards. Some communities have a more upscale feel than others, and you’ll want your property to look just as polished as the competition, so ask yourself how much work it would take to get the home up to local standards when you’re walking around with a real estate agent.
And always pay close attention to the basics (like plumbing and electricity) when it comes to a vacation home. It can be difficult to maintain a vacation home because there isn’t tenant continuity, and if a pipe bursts on an offseason, you might not know about it for days or possibly weeks. The best way to avoid a problem like that is to buy a place that is already in good to excellent condition and then do appropriate maintenance.
… But be careful about relying on rental income
The problem with counting on short-term rental income is that you really don’t know what to expect unless you already own another short-term rental property in the area (and have for at least a year). Vacation spots that have seasonal “rushes” will be pretty busy during the months when people want to visit, but if you don’t plan for the downtime, you could wind up financially pinched.
There’s also the potential risk that a popular vacation spot might not always be so popping, and the rent you’re able to collect for short-term stays starts to slip. Or that you’re buying at a price peak and that the home’s value will decline instead of appreciating after you buy it (it’s happened before; just ask 2008 and 2009). If there’s a possibility that a poor choice of vacation home could completely sink you, then think very carefully about moving forward with your dream right now (and keep saving up a down payment for when it is possible).
Understand the taxes
You can deduct mortgage interest on your second home (although recent tax changes that affect mortgage interest deductions apply to second homes, too, so this has changed for high-end properties between $750,000 and $1 million in sales price). And there are other tax advantages, but you’ll need to make sure you’re following all the rules.
One of those rules concerns how long you can spend in your vacation home: You can only occupy it for two weeks or 10 percent of total rental days (whichever is greater). That could be as much as a month in an area with constant short-term rental turnover, but don’t surpass that two-week occupation timeframe if you aren’t certain that you won’t be penalized.
And if you rent your vacation home out for more than 15 days a year, then you’ll need to claim that income with the IRS and pay taxes on it, including some taxes you might not have considered (lodging tax and tourist tax come to mind).
Don’t forget the ‘hidden’ costs
If it’s been a while since you bought a house, then you can be forgiven for forgetting that you’ll need to pay homeowners’ insurance and property taxes in addition to the mortgage. (If you’ve never bought a house, consider this a heads-up.)
But there are other costs of owning a vacation home. Insurance is usually more expensive, for a start; insurers figure that someone occupying a property is going to be more likely to find and fix a potentially big problem before it escalates than an absentee owner, and they charge accordingly.
Speaking of a potentially big problem while you’re away, have you thought about who’s going to watch and maintain the home for you? Vacant homes are more attractive for certain crimes, too, so you might want to invest in some light timers and regular pop-ins from a local to make sure everything is safe.
And you’ll need to maintain the utilities at the home even when you’re not there, and possibly get the lawn mowed and the flowers watered, too. There could be homeowners’ association (HOA) dues, specific local taxes, and other expenses involved.
Talk to somebody who owns a vacation home in the area, an experienced real estate agent, or both to get a full rundown of the costs of vacation homeownership that haven’t pinged your radar.
Now that you’ve seriously considered all the potential costs, you can set a realistic price range for a vacation home that’s within your means. That’s not as appealing as just putting down an offer on the first log cabin or beach house that piques your fancy, but it’s a much more intelligent decision because you’ll actually be able to enjoy the home instead of considering it the source of constant stress and misery.
Talk to professionals to nail down how much you can realistically spend on down payment and the monthly mortgage payment, and then shop strictly within your budget. You might find that you’re priced out of Tahoe (or Telluride, for that matter), but there could be plenty of lakefront properties or ski destinations in less-well-known areas that still fit your budget and can turn a decent rental profit, helping you build your empire.
Remember: There’s no substitute for experience
Before you choose a vacation rental property, you need to find the right community. That will differ according to both your tastes and your budget, and it’s important to spend plenty of time in any area before you decide to take on a mortgage loan.
Rent some vacation homes in the area you’re considering and spend a week or two there. If you can come back throughout the year, try to do that: It will help give you a sense of how busy (or not) the area’s peaks and valleys can be in terms of tourism and will aid your calculations when you’re figuring out rental potential.