Are Short-Term or Long-Term Rentals the Better Investment?

Real estate is a relatively low-risk investment with high potential for return. Among the many options for real estate investments, rental properties stand out as one of the best strategies as they allow investors to make money both in the short run (through rental income) and in the long run (through appreciation). However, a question which becomes more and more popular among property investors in recent years is whether traditional, long-term rentals or Airbnb-style, short-term rentals are the better investment strategy. Both come with advantages and disadvantages which we analyze below in order to help you find out the most profitable real estate investment in 2019.

Investing in Traditional Rentals

Advantages

• Source of Stable Income

One of the most important benefits of long-term rentals is that they provide regular, stable income. Once you find good tenants, you can build and maintain a relationship with them in order to make them want to remain at your property for the long run. If you manage your property well and keep your renters happy (provided that their demands and expectations are reasonable), they can stay on your property for years. This means that each and every month you will receive income from the rent they pay you. As long as you buy a property in a good condition and put together an efficient marketing and tenant screening process, you can start renting your property right away which means rental income from month one.

• Low Vacancy and Turnover Rate

Another major advantage of traditional rentals over Airbnb properties from an investor’s point of view is the significantly lower turnover. Long-term rental properties are rented out on monthly basis, but tenants usually stay for a few years. In the meantime, the landlord does not have to worry about marketing the property and looking for new renters, which can be a time-consuming and frustrating endeavor. This also means that the vacancy rate will be low as long as the property is located in a top location and is maintained well. Dealing with turnover and vacancies is not only annoying but also has a direct negative effect on your rental income, cash flow and return on investment. So this is something which real estate investors want to avoid.

• Low Recurrent Expenses

Regardless of which rental strategy an investor goes for, certain fixed recurrent expenses, such as the monthly mortgage payments and property tax, must be covered. However, other ongoing costs like property insurance, maintenance, repairs, marketing, and screening tenants vary depending on your rental strategy. Such expenses tend to be lower when you rent out traditionally. After all, if long-term tenants start feeling attached to your property and treat it as their own home, they will take good care of it and not cause any major damage, at least in most cases. Short-term guests, on the other hand, tend to be more reckless, which means you need to upgrade your property insurance and still spend more on maintenance and repairs. Having lower recurrent expenses increases your cash flow and return on investment.

• Legal Issues

Renting out a property is legal in all US markets and faces only reasonable regulations, mostly to assure tenants’ safety and rights. While states and cities vary in their local landlord rights and obligations, legal issues are rarely an obstacle to owners of traditional rentals.

However, this is not the case with Airbnb rentals which are subjected to more and more regulations, restrictions, and even bans in many major US real estate markets. First, this means that you as a real estate investor have to conduct careful research before buying a short-term rental property. Second, even if you choose a location where Airbnb is legal today, there is no guarantee that the situation will not deteriorate in the future.

• Passive Investments

Last but not least, long-term rentals are an excellent real estate investment strategy for just about anyone regardless of background and commitment because they can be a form of passive investment. Professional property management companies would take care of all aspects of owning and managing your rental on your behalf, while you can focus on your full-time job or on enjoying the passive income you receive from real estate.

Disadvantages

• Dealing with Bad Tenants

Having long-term tenants is definitely one of the major pros of investing in traditional rentals. However, this can turn into a significant problem if you get stuck with bad tenants. No matter how rigid your screening process is, you can never know if tenants will be good or bad before you start renting out to them. Because of the law tending to protect renters, it can be difficult – and expensive – to free yourself from bad tenants.

• Difficult Rent Increases

When you have a long-term tenant occupying your property, it is hard to increase the rent to compensate for inflation or to follow up trends in your local housing market. Most locations impose a ceiling on the rent increase per year. Moreover, even if you figure out a way to raise the rental rate without facing legal consequences, you still risk losing your tenants as a result of the change.

• Lower Rental Income, Cash Flow, and Return on Investment

Despite all their benefits, data from Mashvisor, a real estate data analytics company, shows that in general long-term rentals get lower rental income than short-term rentals. Even after accounting for the highest recurrent expenses associated with vacation rentals, Airbnb properties end up with higher cash flow and return on investment in terms of cap rate and cash on cash return in most US markets.

Investing in Airbnb Rentals

Advantages

• Strong Rental Demand

The home sharing industry has grown exponentially in recent years after the establishment of Airbnb.com in 2008. Vacation rentals offer a cheap and accommodating alternative to hotels which attracts many guests. Indeed, there is strong demand for short-term rentals in both major cities and smaller towns and villages from tourists as well as business travelers. This is a fact which real estate investors should consider when choosing the optimal rental strategy.

• Flexible Pricing

As discussed above, once you have a long-term tenant in your traditional rental, it is difficult to increase the rent without losing him/her. However, this is not the case with short-term rentals. You can set a different rental rate for your Airbnb property for each day of the week to accommodate for weekdays and weekends as well for holidays and other seasonal variations. Lowering the price during the off season will allow you to still attract some guests and avoid 100% vacancy. During the peak season, on the other hand, you can increase the rate without losing visitors. Thus, you to develop an elaborate pricing system suitable for your particular location.

• More Rental Income and Higher Return on Investment

Data from Mashvisor shows that in most US real estate markets Airbnb rentals yield higher rental income than traditional rentals. From an investor’s point of view, higher income translates into more positive cash flow and subsequently higher return on investment. This is a leading argument in favor of investing in vacation rentals over traditional ones as the ultimate goal of property investors is to make money.

• Passive Investment

Contrary to what most people imagine when they think about short-term rentals, owning and renting out an Airbnb property can be a form of passive investment. Just as the home sharing industry has been growing, so have property management companies specializing in vacation rentals. All you have to do is to buy an investment property, hire a professional property management company, and receive your income at the end of the month. Meanwhile, the property managers will take care of marketing your rental, finding guests, dealing with them, collecting the payments, cleaning the property and restocking it between visits, and maintaining it when necessary. As a professional company is capable of managing your vacation rental better than you, your return on investment will increase even though you have to pay them a monthly fee.

Disadvantages

• Legal Issues

The main challenge associated with investing in an Airbnb rental is that these investment properties are becoming illegal or at least very strictly regulated and restricted in many hot markets. As a result of pressure from the hotel lobby and complaints from residents, more and more local authorities start imposing restrictive regulations on short-term rentals in the area. Even if you buy an Airbnb property in a location where it is legal today, there is no guarantee that this will still be the case in a few months. The best solution to this problem is to invest in a place which is good for both traditional and short-term rentals in case you need to switch your rental strategy in a year or two.

• The Effect of Seasonality

Unlike long-term rentals, vacation homes are highly affected by seasonality. If you own a beachfront rental, you can’t expect many guests if any at all in the winter months. Similarly, if you invest in a ski resort place, you will barely get visitors in the summer. Having your property vacant for some part of the year will affect your rental income as well as your return negatively. Of course, a possible way to overcome this obstacle is to choose a location which attracts tourists and business travelers year-round.

• Higher Turnover

Another downside of vacation rentals is that they experience a significantly higher turnover rate than traditional rentals. You may have guests who come for just one night, so you have to welcome them and collect the key from them, clean after them, and restock on daily basis. This requires a lot of effort and can be costly. You can deal with this issue by hiring a vacation rental management company, as mentioned above.

Investing in both traditional rentals and Airbnb properties has advantages and disadvantages. Both options can be very profitable, low-risk investment strategies. Thus, before deciding which rental strategy to go for, you should consider your particular situation and most importantly the location where you plan to invest. After assuring that Airbnb rentals are legal in your area, conduct investment property analysis to figure out which rental strategy will bring you a higher return on investment.