Becoming Financially Free Part 2: Your Short-Term Rental Questions Answered by Michael Elefante
Our recent meetup, How to Become Financially Free by Investing In Short-Term Rentals, featuring Michael Elefante, was so engaging that we didn’t have time to answer all of the fabulous questions that were asked by attendees. So, we decided to bring Michael back to our blog to provide more answers and insight on how to become financially free by investing in short-term rentals.
(If you missed this not-to-be-missed webinar, you can watch the recording here.)
These follow-up answers touch on topics related to everything from investing in short-term rentals, to questions about laws and insurance, to price management solutions, so regardless of where you are now on the short-term rental host spectrum, there is plenty of insight to glean!
Your Investing Questions Answered:
Is there a formula to understand the ROI of a property?
Yes, in my analysis template, I look at cash on cash return and total ROI. Cash on cash return is the total annual predicted cash flow divided by the total amount of money you had to invest to acquire and stand up the property. Total ROI is annual cash flow plus equity gained through principal paydown, appreciation, and any forced appreciation if you did rehab on the property, all added up divided by total money invested.
What would be your “general” idea on the net earnings per property?
When evaluating properties, I focus on cash on cash return. My goal is 25%+ if I am self-managing. 20%+ is still a tremendous return. As I have scaled, I have personally focused on larger, higher cash flowing properties. I’d rather have one big property cash flowing $10k per month vs 3 small ones cash flowing $10k total per month, assuming the CoC return is equal. This is because a large property, once set up, takes just about the same effort to manage as a small property does if you are self-managing. So I’d prefer to spend less time managing large properties than more time managing a higher quantity of smaller ones.
What process are you using to evaluate properties to know they would be the right ones?
A method I created and also put together as a resource for anyone out there! It’s called Airbnb Investor Academy. I have several investment evaluation templates I use, along with software and data from AirDNA.
Do you own the 6 properties that you have listed on Airbnb?
Yes, all of our properties are currently owned. We may do rental arbitrage in the near future as we continue to scale.
How did you fund your investments after the first property?
We liquidated our retirement accounts for the second one (not advice), and for the third we saved up from work income and cash flow from the first two properties. For the fourth one, we did a cash out refinance on our primary residence along with cash flow and savings from work to fund the deal which was a partnership with someone else. The 5th property was money saved from cash flow and the 6th was purely from doing cash out refinances on a couple of our existing Airbnbs, which we rehabbed to increase value.
You’ve mentioned bringing in an investor on a purchase of a property. Would you mind sharing how that relationship works (both personal and financially)?
We partnered with another investor on our fourth property. You can carve up a partnership in many ways. I’d recommend drawing up a formal real estate partnership agreement. You can get one online or work with an attorney. Not very expensive. Even if it’s a family member, I recommend getting this done. In the agreement, you’d have things such as: roles and responsibilities of all parties, who’s contributing what amount of capital, who is responsible for what, how equity is split up (% ownership), how and when profits are distributed and what % goes to who, etc.. You don’t need a joint LLC to partner on a property, although you could consider that on top of the partnership. For legal advice, I always suggest working with a real estate attorney.
When you liquidated your retirement, what did it take to come to terms with accepting the monetary penalties associated?
This is not financial advice, but yes, I did liquidate retirement accounts to invest in real estate. We took a 10% penalty plus ordinary income taxes on that money since it was in a traditional retirement account. Taking the 10% hit was a calculated risk because the ROI we got by investing that into real estate has been exponentially rewarding to us. Taxes – I’m not worried about paying. In my opinion, the 401k is misleading most people, saying it grows tax-free. You’re still going to pay taxes later on in life on that money. Tax rates are likely going to increase over the next several decades so if that is true, I’ll actually pay less taxes on that money today than in 30-40 years. Again this is just my opinion.
Since you liquidated your retirement accounts to invest in vacation rentals, what is your retirement strategy?
You don’t need an IRA or a 401k to retire. These things were created not all that long ago, meant to help supplement people’s retirements, not to actually fully fund a retirement. I would personally rather have cash flowing rental properties with near-guaranteed rental income every month as my retirement plan. At some point, I’ll pay someone to manage the properties so I can sit back and do almost nothing while the money rolls in. On top of that, you build equity in each property over time which builds your wealth dramatically.
Can a self-directed IRA be used to fund short-term rentals?
Did you use business credit or grants to fund your AirBnB business? In addition, are any of the units on Raw Land?
No we haven’t used any of this and none of our properties are sitting on raw land.
Do properties with a parking space have a higher occupancy rate?
Some cities require you to have a certain amount of available parking for guests to pass a permit inspection. Outside of that, it depends on the location/market. If it’s a drive-to vacation market, parking is certainly going to be desired. In a metro area where a lot of people fly in and Uber – parking is not as important but still nice to have.
Can you talk more about doing STR with rentals? Want to start a bit lower risk, but having a very hard time working with/ finding owners who are willing to partner in this way.
I’d suggest running the numbers or analysis on properties and presenting them to investors. They’ll likely be more eager to partner if you show them a great deal with the analysis already done for them.
What are the downsides associated with short term rentals?
Downsides are the possible risk that if anything such as Covid hits the world and the travel industry comes to a screaming halt, you have to pivot and figure out a way to ensure you stay cash flow positive. Airbnbs are not 100% passive. It takes effort to furnish and stand up and although you can automate most of the day-to-day management, you still spend some time each week managing each property. But I can assure you the cash flow is well worth it.
If you had $300K to invest in another $1.5M property, what city would YOU buy it in? Would you do another Fort Lauderdale property or go elsewhere?
There are great deals in MANY markets. There is no one city I would suggest necessarily. Some of the markets I’ve focused on with my clients are: South Florida, Phoenix/Scottsdale, Nashville, The Smokies, Broken Bow
Your Insurance and Legal Questions Answered:
AirBNB offers us all $1mil liability. What should we be stacking on top of that to make sure we’re in decent shape?
For rental arbitrage if you’re only renting out an Airbnb – this may be enough coverage for you since you don’t own the property. This is assuming you are renting through a corporate lease, under your LLC. For owning a property, I prefer to have a specific homeowners insurance policy designed for short term rentals that covers me far beyond just basic liability coverage.
What is the average cost for short term rental insurance?
The cost for insurance is usually 1.5- 2 times the amount that normal insurance costs. It’s worth it.
Is it possible to bypass HOA CC&Rs restricting short term rentals?
No, I would avoid a purchase if it resides in HOA or COA that restricts short term rentals. You’re asking for a major headache.
How do you deal with laws changing in different locations?
Try to be well versed in the history of law changes in a given city. Most cities grandfather in existing permit holders if rules change. Metro areas tend to change rules faster than traditional vacation markets.
Your Questions About Short-term Rental Logistics Answered:
What’s your average turnaround time from when you close on the home to when it’s up on Airbnb?
Each investment is different. It depends if it comes fully furnished ready to rent and the time it takes to apply for and obtain a permit. Or if you do rehab and have to furnish the property – it could take months. Typically, if the property doesn’t need much, if any rehab, and just needs to be furnished, 30 days is pretty standard to be up and running.
Which software do you use for pricing the night rates?
How do you figure out your minimum stay in the short-term rental ?
I do a tiered system for minimum night stay in Pricelabs based on how far out the booking lead time is or how occupied my calendar becomes.