The Pros and Cons of Owning Vacation Rental Property

Many people dream of owning a lakefront cottage, mountain cabin, oceanfront condo, or city apartment they can rent now and retire to later. There are about nine million second homes in the U.S. and 25 to 35 percent are rented out. Buying, owning, and maintaining a vacation rental can bring a lot of benefits, but there can be significant drawbacks to consider as well. Before investing, it pays to weigh the pros and cons to see what works in your life.

Pros to Owning Vacation Rental Property

There are a variety of benefits to keep in mind when you are considering purchasing a vacation rental property.

Income
The first thing most people think of when it comes to rental properties is the income they could bring in and in fact 45 percent of vacation home owners buy for this reason. A study by Earnest.com found that the average Airbnb host makes $924 per month. You might think that means you could earn upwards of $11,000 per year, but many vacation rentals are seasonal with peak rentals just a few months per year. The location and size of your property will determine how much you can earn. Keep in mind that you have to pay mortgage, taxes, insurance, and upkeep on the property, so you may not net any profit at year’s end, which may be fine if you view the property as a long-term investment. Check out the going nightly and weekly rates in the area you are considering, as well as how long peak season lasts.

Retirement Planning
Purchasing a property now and renting it can position you to have a ready-made retirement residence for your future, but be aware that your needs and desires could change based on where family lives, your future health, and your changing interests. Purchasing a rental home now does allow you to build equity so that when you are ready to retire you can sell your primary home and use that equity to pay off your vacation home mortgage, likely with some cash to spare. However nearly half of all vacation home buyers pay cash and have no mortgage. Another consideration is the projected appreciation for the property. Will this investment grow on par with other investments, such as mutual funds? This may not matter if your goal is a home you can retire to, but if you’re planning to sell the property, it should be a consideration. Your financial advisor can help you weigh your options.

Tax Deductions
If you treat the property as a business, you can deduct many expenses like repairs, management, housekeeping, insurance and more from any income earned. However, if you do make a profit, you’ll pay income tax on that. If you don’t rent it, you can’t take deductions, but you also won’t have additional income to pay tax on, which can be key if you are on the edge of a higher tax bracket.†

A Family Getaway
Owning a vacation home gives you a getaway spot you can use as you please (49 percent of owners plan to do this) where you can keep belongings (no heavy suitcases needed). Sometimes families will buy property near a college or university for their own children to use. Keep in mind that any time you use the property you may be losing rent, especially if you only want to visit at peak times. If you tire of having to vacation in the same place, you might decide to pay for vacations elsewhere. If your rental is occupied, this can be an equal trade-off, but if you’re spending more on your trips than you’re earning on your rental, it may cause a cash flow problem.

Cons to Owning Vacation Rental Property

It’s not uncommon to hear people complain about what a headache a vacation rental is, but it’s best to weigh the drawbacks for yourself.

Costs
Purchasing a second home may cost more than you expect. Second home purchases are exploding with Redfin reporting that demand has quadrupled recently, pushing up prices. If you finance your purchase, you’ll find that second home mortgage interest rates are higher by at least half a percentage point, which can add up over the years. You will also most likely be required to put 20 to 30 percent down on the purchase. Taxes on a vacation property can be higher than you might expect if the property is in a desirable location, such as on the waterfront.

Maintenance
One of the challenges of owning a vacation rental is maintaining it. If you live nearby, you may be able to do some work yourself or at least supervise people you hire. If you’re far away you’re placed in a position of using a management company (which about 44% of second home owners do) to inspect the home, hire workers, and supervise them. It can be difficult to make decisions about things you can only see in photos from afar, but, on the other hand, it can be freeing to simply hire someone to handle it all on your behalf.

Legal Issues
Renting a property means interacting with renters, dealing with contracts, collecting payments and damage deposits, paying taxes, and dealing with possible liability. Most people hire an attorney and a tax preparer to assist with the purchase and the taxes. You’ll need a homeowner’s insurance policy that covers possible injuries to renters and damage to the property. Many second homeowners rely on a vacation rental agency (which charges 10 to 50 percent of your rent) to advertise the property, vet renters, manage contracts, and check for damage. It’s possible to handle this yourself if you are in the area and feel comfortable putting in the time needed, but it can require a lot of time and attention. If you handle rentals yourself, have an attorney write or review the rental agreement.

Stress
Some people find that a vacation home creates a lot of stress since they now have two homes to maintain and pay for. Renting the property can create even more complications. You have to determine how well-suited you are to the situation.

Deciding to buy a vacation rental home is an exciting prospect and one that requires careful thought and planning. Download our free investment property eGuide today to help you make the right decision.

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^†This content is developed from sources believed to be providing accurate information. The information in this material is not intended as tax or legal advice. Please consult legal or tax professionals for specific information regarding your individual situation.