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What is a good ROI on a Vacation Rental Property?

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SUMMARY:

There are many ways to see if your investment will work. Or if you’ve just purchased one, did you do a good job? In this video I break down my favorite way to tell if I’ve won in an investment and what I look for.

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There are a few different ways to earn money on your investments.

In this video we’ll discuss the three main ways. 

First, I explain my favorite. I explain “what is cash-on-cash return”. And I give a real estate based example to help illustrate.

I also share my minimum requirements for what I’ll accept as a cash-on-cash return. Some people don’t believe my “minimum” is even possible.

But you have to remember that short term rentals are an active form of investing. In some cases, the margins are so good you can hire a manager to do it for you. Then you’re still making great money and it really is passive.

With everyone flooding the long term rental market because of low interest rates, short term rentals are still untapped. But they are active.

The next way we earn is through appreciation. This one is a leveraged return. I’ll explain what that means and why it’s so powerful.

Next I explain what forced appreciation is and how to get it. 

Finally we discuss principal paydown. This is the last way you can earn on your property.

Everyone understands this one. If you take out any type of loan, you must pay it off over time.

But with real estate, there are some beautiful things you need to keep in mind about how to best use this. And I discuss them in the video.

And my final point of the video that I make is sharing why I only ever have to sell my properties because I want to, not because of what the market is doing.

VIDEO TRANSCRIPT:

What's up guys,
it's James here and in today's video, we're going to be talking about what is a good ROI for a vacation rental property, short term rental and Airbnb. So for anyone that is thinking about or that is already investing in short term rental properties, otherwise known as Airbnb or vacation rental properties, we're going to kind of break down what a good ROI is return on investment, what I look for on a return on investment, and kind of use a case study of one of the properties that I broken down a lot more extensively on this channel. So if you are looking for kind of a an overall breakdown of Property Performance, actually looking at the numbers, then there's another video that we've recently put up on the channel that addresses all that. And if you are interested in actually getting started managing other people's properties on Airbnb, or investing in properties of your own on Airbnb, then there are links down the description to check out our free trainings we put together on those specifically, if you watch this video, and you are actually interested in buying a property for short term rental, you want to start investing in Airbnb and actually buy them, then I highly recommend that you check out the training, it's linked in the description down below, that's gonna be a train where we walk through all the different steps involved in that process, make sure you can invest successfully, we're also going to give you our ROI calculator spreadsheet that allows you to analyze properties for short term rental and make sure that you're hitting the ROI targets we're laying out in today's video. So as a general rule of thumb, I aim for a 20% or greater 20% Really my minimum cut off for a cash on cash ROI. Now I'm going to break it down here because whenever you're investing in real estate, there's a few different ways that you earn a return on your investment. And I'm going to kind of break it down and go into into more detail. So the most important ROI, for me at least is the is the cash on cash ROI. So it's exactly what it sounds like it out of the cash that you're putting into the deal, what is the actual cash that you're getting out on an annual basis. So if you think about a typical property, let's say that it's half a million dollars, it's $500,000, well, you're not actually going to be investing $500,000 In order to purchase and get that property set up, because you're likely not gonna be buying the property in cash. Now, if you are, that's gonna be a bit different. But for most people, you're going to be putting 10 or 20% down on the property. So that means that you're only putting down 50 to $100,000. That's the actual cash that's coming out of your pocket to actually buy the property. Now, in addition to that, you're also going to have your closing costs, you're going to have potentially some renovation costs, and then you're gonna have your furnishing costs. So let's say that you put 20%, down, you put $100,000 in, and let's say you put another $30,000 into some light repairs or or improvements and furnishing of the property, that means that your cash invested into the property is then going to be $130,000. So your cash on cash return would be whatever you're getting back on that property on an annualized basis as actual profit. So not meaning meaning the cash that's coming into your bank account that's actually adding up in your bank account. So this is basically going to be your profit, meaning the revenue that comes in from Airbnb, less the expenses from Airbnb being, which might be cleaning expenses, maintenance related expenses, and then also your carrying costs for the property, being your mortgage, your taxes, your insurance, things like that. So let's say that that property that you buy for $500,000, it brings in about $130,000 in a year in gross revenue, and then your profit on that just for easy numbers, let's say that is $65,000 in actual profit, that means that $65,000 in profit, were on a deal where you put 30 $130,000 into it means your cash on cash ROI would be 50%. Because you put $130,000 in, and then in a year, it brings you $65,000, that would be an exceptional example, I actually break down the numbers on a property that is going to be doing even more than that, in that I bought for $520,000. That's in another video. So these numbers can be really, really strong. And there's a couple different ways that you can do that. Again, there's a free training link in the description down below showing the ins and outs of how we were able to find that property, how you're able to find properties that are like that they're going to perform really, really well. Now, the reason for that as well, I will mention because a lot of people when they hear, you know, 50% cash on cash return that kind of blows their mind. And a lot of people think that that's just not realistic or not achievable. And I do like to remind people that the reason it's achievable is because short term rental is a more active form of investing than other types of investing. So if you think about long term rental investing, that is more passive. And so right now there's been there's also been a lot more competition in that space because interest rates have been so low, a lot of you are flooding the market and not to bring your returns down because property values are going up. And so that's why there's just this kind of untapped market with short term rentals, so to speak, is one reason why the returns are so great The other reason is because it is more active, if you also get to compare it to, let's say, investing your money into an index fund, obviously, that is highly highly passive. So it makes sense that you're obviously not going to make as much of a return, because you're not putting any time or energy into it or very, very little, you basically look up an index fund, set up your account, boom, there you go. Whereas with the short term rental property, there is a lot more involved with investing in real estate in general. And then short term rentals oftentimes have more work associated with them as well. That being said, with a 50%, cash on cash margin, you can more than afford to hire a full time property manager, bring those numbers down a bit. And then that way, you're still going to be earning a really healthy cash on cash return, you're still gonna be earning really good money on the property, but it is a lot more passive, a lot more hands off. So that's cash on cash, that's really just one area of your ROI. And that's by my standards, that is the most important because that's the one that actually pays the bills, that's the one that actually gives you money in your pocket that you can access right away. And then you can use to then keep on reinvesting that money into more properties, or funneling your life, if you want to be able to kind of retire early, you want to use this to achieve financial independence, that's where that number comes into play
and becomes really important. Now, the other way that you're going to earn a return on your investment is through appreciation, that's ultimately just going to depend on the property, how much money you're making from that. But the really nice thing about real estate is that you're applying leverage. So especially in an area, where we're potentially going to be seeing over the next couple years, a lot more inflation than we're used to, there's a really nice hedge there, because your property, the loan you have on your property, your mortgage is going to stay the exact same, it's going to go down every month, whatever, but your money is going to be worth a lot less. So basically, in with inflation, you know, $2,000 becomes worth the same as what you know, it's going to take $3,000 times as much buying power is $2,000. So if you think about it, and a lot of people understand, but I just want to explain it as well, for the people that maybe are new to this concept, because you know, it takes a little bit of kind of understanding to really understand, or a little bit thinking to really understand it is that basically if let's say in a year from now, you know, your $2,000 is really not worth as much as it takes $3,000 to to be worth as much as what $2,000 Is today, then likely your wages are going to go up according to inflation. So you're going to actually making instead of $2,000, every, every two weeks, you'll make $3,000 every two weeks or whatever your income is. So that means that now you're making more money, but it just has the exact same buying power that it already has. The exception to that is your mortgage, because now if you're making $3,000 a month, it's not like your interest or your monthly payment on your mortgage went up according to inflation, so you have more money to be able to pay down that mortgage with and then same thing goes with the actual performance of the property, the performance of the property is going to go up, you're gonna be bringing in more money on that property, you're gonna have the same exact mortgage payment. So that's a really nice cool factor there. Just as an aside, that's not really return on investment. That's just sort of a side note, I know I went on a little bit of a tangent a little bit down a rabbit hole there. But back to what we were talking about there, you're also going to make your money through appreciation. Now appreciation is basically just the natural going up a value of properties, which also again, is impacted by inflation because your your property is going to go up, generally speaking, according to inflation. And generally, there's also other factors that play into that, if you want to be really safe and really conservative in North America, I like to use an average of 2% per year for appreciation and properties. But obviously, in different areas, it far far exceeds that in the year that we're investing in property values in the last year went up by about 30 35%. But averaged over the long run, you're going to get a lot more tame down returns than that appreciation that but I like to be really safe. I don't really like to bank on appreciation, but 2% per year is definitely going to be achievable
long term. Now the nice thing is we only have let's say $130,000 into the deal, but we get appreciation on $500,000 for the property value. If we do renovations, we can actually force appreciation as well. So those are that's another whole kind of aspect of appreciation is that we can buy a property that needs renovation, put $30,000 into it and then build we can force the property through doing that to appreciate by $60,000. Because the value of the property doesn't go from 500 to 530. After $30,000 of the rental work, it goes up to $560,000 because the market rewards that work that you've done renovating the property, the amount that the property appreciates is going to be disproportionate as long as you do the right renovations to the amount that you spend on those renovations. So in any case, you're going to be earning appreciation ROI that is not real money in the sense that you can't actually go and spend that appreciation unless you do a refinance on the property or you ultimately sell that property for more than what you bought it for. So that's why to me it's not as important as the cash on cash return. It's more of just a nice someday return on investment when we eventually do sell the property if we eventually do sell the purchase. property before we die, so that is your appreciation. And then the last way that you're going to be earning your return on investment is going to be through principal pay down every month, you make a payment, that's your mortgage payment, right? If you didn't pay the property in cash, then you have a loan on the property, that's your mortgage, and you're gonna be paying that down every single month. Now, when you first start out, it's gonna be a small amount of principal and a big amount of interest, that interest just goes to the bank. But ultimately, that's what you're using to be able to make this profit. So it's totally okay, it just means that you're not gonna be building up as much equity in the property through your principal pay down. So your principal return on our investment, your equity building return on your investment is not going to be a substantial in the first few years later on longer into your mortgage, it's going to be more principal that you're paying down and less interest. So there's just a schedule that these things follow your mortgage payments are going to follow. And then every month when you make that payment, a portion of that monthly payment that consists of principal and interest, the portion that is principal, that's going to be just putting money into the bank, basically, because it's just a greater percentage of the property that you own. Now, again, that is not necessarily money that you actually have access to, you can potentially use a home equity line of credit, or you can do a cash out refinance, or you can sell the property to be able to access it, but it's not directly accessible in the same way that your cash is that you're bringing on the property. So that is a much more real return on investment than appreciation, which totally depends on the market fluctuations. And obviously, principal pay down does depend somewhat on the market fluctuations of the property, whether that's actually worth what you're paying down, because if your property decreases in value in the short term, then you may not be able to reap all the rewards of it. So again, there is still some fluctuation involved, that there's still some market factor involved, but substantially less so than what we're talking about when we're talking about the appreciation ROI. Ultimately, the other big reason why cash on cash is so, so important. And why cash really is king, when it comes to real estate investing is because cash flow is the one thing that's going to be able to protect you so that you're never going to have to actually sell that property. Because as long as that property is generating positive cash flow, you theoretically shouldn't have any reason why you would need to sell the property unless you really were hard up for money for whatever other reason, but you're not gonna be spending money out of pocket to actually hold this property and carry it and own that property as long as you're generating positive cash flow. So that means you can weather the storm on a short term market fluctuations. If the property value goes down, it's not a big deal. If the property is cashflow positive, you can wait a few more years for the property values to climb back up. And make sure that when you do sell the property, you're selling the property because you are ready to cash out on your profits, not because you're scared and you're forced to sell the property. So that's another big reason why cash flow really is king. That's my breakdown. As a rule of thumb, I really am aiming for at least a 20% cash on cash return. When I invest in short term rental property, I want to get disproportionate rewards because it is a different form of investing that requires a different return for me to deem it worthwhile. So 20% is my minimum for cash on cash, I ideally want to be striving for 30 to 40%. Now as far as the other returns on investment, you know, your your appreciation and your principal pay down those things I don't consider as much I do want to be using more leverage nowadays, just because of the reasons I mentioned around the potential for a lot higher inflation. But ultimately, I just want to go and find the best deals out there possible.
So that is my take on ROI. When it comes to short term rental investing. Let me know your thoughts. If you are in this space, you have questions, let me know in the comment section down below. If you liked this video, if you got value from it, if you found it helpful, then please give this video like give it a thumbs up. If you're interested in learning more about how to invest in short term rental properties. And you want some tools and strategies on how to do that successfully and make the most out of your investments, then I highly recommend checking out the link in the description down below to that free training that Riley and I have put together. And lastly, if you are new to the channel here if you have not yet subscribed, I know myself personally, I watch a lot of channels on YouTube that I just don't subscribe to because I don't think about it. So take a second think about it. Take a look. You know see if you're subscribed if you're not hit that subscribe button. And I would love to have you join this family here on YouTube. join this community and be a part of everything we're building here. It really helps you out helps the channel out. It'll help to you to stay informed with the new videos you post twice every single week. So all that being said, thanks for checking out this video and I'll see you in the next one.

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