The COVID-19 outbreak has presented a big challenge for Airbnb and its legion of hosts. We’re now in year 3 as hosts and despite the pandemic, we remain cautiously optimistic. At this point in 2020, our Airbnb is profitable by a micron. We’re encouraged that Airbnb has set up a program that allows us to offer a steep discount for first responders and medical staff. Without hesitation, we signed up to do our part.
This cornerstone post answers the basics of whether or not Airbnb is profitable for hosts. There are several factors, from choosing the right location to financing, and understanding how to attract bookings as a new kid on the block.
Real estate investing can be a lucrative way to help you reach your very own financial independence, and/or early retirement goals. Long-term rentals have been a winning wealth-builder for us. It felt like going out on a limb at first, but we had an experienced mentor to help us get started. This gave us enough confidence to buy our very first rental: a short-sale single-family house.
We were far from being flush with cash. I had to take out a home equity line of credit on our primary residence to afford the down payment. Once we closed, the list of improvements grew to a tally of almost $5,000. What had we gotten ourselves into??
Long story short – that first rental had its first leased tenants within two months of closing. Rent checks started flowing in. We closed on our second rental just six months later, right around the time we welcomed our twins into the world. Rentals three and four followed in 2015 and 2016.
Each of our four long-term rentals has, over time, paid off handsomely. Thanks to a strong rental market here in Minneapolis, we can command good rents. Plus, the tenants we attract have been great to work with. Never a late payment, and often they’ll put their own money into small improvements.
What Is Airbnb?
From Wikipedia: AirBNB is an American company that hosts an online marketplace and hospitality service, for people to lease or rent short-term lodging including vacation rentals, apartment rentals, homestays, hostel beds, or hotel rooms. The company does not own any lodging; it is a broker that receives percentage service fees from both guests and hosts in conjunction with every booking. In January 2018 the company had over 3,000,000 lodging listings in 65,000 cities and 191 countries.
For a company that started nine years ago, that’s a pretty impressive number of lodgings. How long did it take Hilton to build that many rooms? All AirBNB’s founders had to do was harness the Internet, create the marketplace, and take their 3% cut from each booking. Genius.
As we worked through the offer process and closing on the condo, I was also digging into my research. We’d stayed at a couple of Airbnbs, but we sure as heck hadn’t hosted any. Pinterest and a very helpful book Get Paid for Your Pad by Jasper Ribbers and Huzefa Kapadia were vital references.
By 2017, the housing market had not only recovered, but it had also 180’ed and become overheated. The pickings were slim. Houses that once sold for $150,000 were now going for $200,000.
In my quest for our fifth rental, I kept running into proverbial windmills. Cash-on-cash returns just weren’t adding up on the overpriced dumps that were available.
About ready to give up, we visited my folks in Charlevoix, Michigan. I was perusing the local paper and decided to take a peek at the real estate listings on the back page. I noticed a condo for sale in the same development where my parents spend their summers. The condo was “bare bones”, with zero updates since having been built in 2005.
I figured, at $125,000 list price, what could it hurt to have a look? This area is a great summertime destination. A new vacation rental option started to dance around in my head.
A profitable vacation rental carries more risk and more reward than a similar long-term rental. You’re not locking-in rent for up to a year or more, as you would with a long-term rental lease. Instead, you’re relying on market demand to fill a vacation property week after week, particularly during “high season”.
The thrust behind this is our own AirBNB experience as guests. We’ve stayed at AirBNBs only a couple of times, but in each instance, we enjoyed our stay and felt welcomed by our hosts.
For my money, AirBNB beats the pants off just about any hermetically sealed hotel. What can I say? It’s just plain nice to stay in a place with windows that open to fresh air.
Why Vacation Rentals Are a Smart Investment
Our Airbnb condo is the fifth rental in our portfolio and the first vacation rental. The intent is for all of these properties to position us well for early retirement (or at least, financial independence).
Using my handy rental property evaluation spreadsheet, I’m projecting a return on investment of about 20%, year over year. That projection assumes minimal use and lower rates in the low seasons (winter, early spring, and late fall).
The key thing to recognize is that the forecast return on investment (ROI) does not factor in the tax advantages of rentals. With those bonuses added in (depreciation, business expense write-offs, and the new small business 20% deduction), overall ROI (or “cash on cash”) rises to a very healthy yield of about 33%.
Airbnb Cash on Cash Return:
How to Finance an Airbnb Vacation Rental
Historically, 4.75% is a very good rate for a 30-year fixed mortgage on a rental property. Keep in mind: if you’re new to rental investments, there’s a half a point premium added to your rate. As of the writing of this post, I’d be looking at a rate of 5.25% on a property closed in late 2018.
We were fortunate to have my parents living in the same complex where our vacation rental is located. They know the drill. For instance, how the utilities are billed, seasonal factors, disposition of neighbors, association nuances, awareness of existing vacation rentals and how they’re performing, etc.
All of this inside information helped immensely. I’m not certain it’s required for a profitable vacation rental, but having trusted, knowledgeable people nearby is an asset that’s a huge plus.
Profitable Airbnb 101: Unless you’re buying auction properties or distressed properties for cash, be sure to use bank financing to fund your vacation rental.
I’m reading more and more about folks in some kind of death race to pay off the mortgage on their rentals. DON’T DO IT. Let the bank hold the risk, while you reap the cash flow reward.
The idea behind “other people’s money” (i.e., the bank’s money) is leverage. Your money will work harder for you if you conserve your cash for more important things like Airbnb improvements (or other rentals!) If you buy a property outright, your cash is suddenly tied up in that single asset. Leverage is the name of the game – especially when interest rates are low.
Is Airbnb Profitable for Hosts?
The big unknown with any long-term rental is how quickly you can sign up a tenant and start getting cash flow. With an Airbnb, particularly one located in a popular vacation zone, you’re often competing with other Airbnbs, VRBOs, traditional B&Bs, and hotels — all in the same general area.
For our vacation rental in northern Michigan, the high-season runs from June through September, with a bit of action in May and October. November through April could see some snow-shoeing types or cross-country skiers, but I’m not counting on them as much.
Market research is VITAL. Use your Airbnb traveler account to scout out a location of interest and analyze other rentals. You’ll find many hosts simply “fire and forget”, i.e., they set a high season rate and leave it locked all year round. Or, they only rent out during the high season.
In our case, we wanted to be able to maximize the return on our vacation rental, and that means year-round guests. Sure, the pricing is lower during those cold, snowy months. But people like weekend retreats all year round. Why not make money vs. leaving the place shut down and empty?
Keep track of your projected returns and vacancies in a spreadsheet. After your first full year, you’ll be able to tweak projections and get a feel for seasonality. Your ability to predict bookings (profits!) will increase as you go.
When I first estimated the setup costs of our vacation rental, I estimated a start-up cost of $12,000. The final tab? $14,696.13. That’s an increase of 22% over forecast.
The main areas I didn’t account for were travel, meals, gratitude gifts for helpers, and the professional painter’s bill. My advice is to add 25% to whatever estimate you come up with when figuring your forecast returns. This will give you a more realistic indicator of cash-on-cash return.
Don’t get disheartened if your target ROI suddenly gets flattened. Year one is always the hardest. After that, it’s all (mostly) gravy.
The Importance of Getting Bookings FAST
Setting up your vacation rental, whether it’s a spare room in your house or the entire dwelling, is pretty straightforward on Airbnb’s interface. However, there are a LOT of variables that come with hosting. You don’t just set your nightly price, upload a bunch of pics and wait (and hope!) You’ve got to figure out the check-in and check-out times.
There are house rules to set and amenities to list. Tax and payment information is required. And there’s more. Do you want to set a strict or flexible cancellation policy? Do you want to include a security deposit? How much will you charge guests for cleaning? (To help answer these questions, I highly recommend the book Get Paid for Your Pad – Reviewed here.)
For anyone just starting, it’s important to be flexible with your booking policies. Remember, you don’t have a reputation yet. Without reviews, your listing won’t catch many eyes from the start. Being flexible with the following variables helped us generate bookings at the outset.
- Keep prices well below your competition. We went as low as 50% below the going area rate. (e.g., $50 per night, v. $100)
- Offer 2 or even 1-night minimum stays.
- Don’t require a damage deposit. Airbnb has a $1M host protection policy, so you’re ultimately covered.
- Be willing to accept booking requests from new Airbnb or VRBO guests.
- Offer a flexible cancellation policy. You can make your policy more strict after 5 or more reviews have been attained.
Once you do get everything all set up, there’s a certain amount of apprehension that sets in. You have ZERO ratings. Who in their right mind would rent from you? This is why it’s super important to channel your inner marketing skills.
Study your target market and see what other successful, similar rentals have posted. Use the best photos you possibly can. Make sure your prices are fair and account for seasonality and local events.
Even then, be prepared to wait a bit for that first booking. It WILL happen!
The good news is that Airbnb is an easy outfit to work with. Signing up to be a host was a breeze. It reminded me of Turbo Tax, with its friendly step-by-step flow.
Having a system to manage the reservation calendar is very convenient. The platform is built on trust between traveler and host. You can certainly turn down guests, but because Airbnb sets the bar fairly high, rarely, you’d ever had to turn anyone away.
Airbnb offers a Smart Pricing feature that adjusts nightly pricing based on seasonal, market competition, and other factors (events, for example). However, I’ve found that BeyondPricing is more in-tune with the local market and does a better job of ensuring top-dollar for our rates.
Why It’s Important to Move Quickly
There was a ton of work that went into getting our place ready to shine. Heck, it was a decent deal ($120K) because it was worn. The carpet had to go. The walls, ceilings, and doors needed patching and painting.
And of course, any vacation rental needs to be FURNISHED.
That’s right, vacation rental investor. You’re on the hook for beds, bedding, chairs, couches, TV, kitchen utensils, toilet paper, lamps, towels, etc. Your shopping list will be longer than any list you’ve ever seen before.
In the case of our new vacation rental, since we closed in late October, we knew there wouldn’t be much action for several months. That is ulcer territory right there!
Each month of vacancy costs $718 in PITI (monthly principal, interest, taxes, and insurance.) The moral of the story is to be prepared to get your new property ready as soon as possible.
Our opportunity cost of not getting the vacation rental until three months after closing:
- PITI @ 2 months x $718 = $1,436. Since we started booking in February, and the bank doesn’t start billing until after the first full month of financing, we only lost two months of PITI. Whew!
We also had association dues to pay, every quarter. The condo association isn’t about to give us the first month free, like the bank did.
- Condo association dues @ 2 months x $133 = $266.
- Gas, Electrical. Not much @ 2 months x $65 = $130.
Some Final Thoughts
Much like a house flip, the clock is ticking. Each month that passes without rent is sunk cost and a big fat ding against your return on investment.
For us, there wasn’t all that much opportunity cost at play. The high season was over. But with a few long weekends of hard work in November and the following January, we had our first Airbnb ready for skiers, snowmobilers, and folks simply yearning for a weekend retreat.
If you’re looking to make some extra cash, sign up here to start your journey as an Airbnb host today!