The Viability of the Short-Term Rental Business in an Economic Downturn

The emergence of the short-term rental industry, popularized by platforms like Airbnb and VRBO, has revolutionized the way people travel and find accommodation. It started as a way for homeowners to earn extra income by renting out their spare rooms or properties.

However, over time, it evolved into a lucrative business model for real estate entrepreneurs looking to capitalize on the high rent per square foot that short-term rentals can command.

Market Growth and Concerns:

The short-term rental market experienced rapid growth over the past decade, with Airbnb being founded in 2008. Entrepreneurs seized opportunities to generate higher rental returns by offering unique and specialized properties to cater to specific niches. The market thrived during the COVID-19 pandemic as people sought alternative vacation options and traveling nurses looked for temporary housing. Real estate investors capitalized on this trend, often incorporating short-term rentals as part of their investment strategy.

However, concerns have arisen about the future of the short-term rental business. News headlines proclaiming “The Airbnb Bust” and discussions surrounding the industry’s resilience during a potential economic downturn have sparked worry among investors. The operational and financial risks associated with running short-term rentals make it a topic of debate among experts.

Financing and Loan Products:

In the early years of the short-term rental industry, acquiring financing for these properties was challenging. Traditional banks were skeptical of this business model and often considered short-term rentals as regular investment properties rather than an operational business. However, as the market grew, loan products specifically tailored for short-term rentals emerged. These loans, known as Debt Service Coverage Ratio (DSCR) loans, enabled investors to secure financing based on the property’s 12-month market rent.

Loan Purchasers’ Perspectives:

The loan market for short-term rentals has fluctuated over time. Initially, loan purchasers showed caution and applied higher interest rates due to the perceived risk of this business model. However, as the market expanded and matured, some loan purchasers became more comfortable with short-term rentals, while others eliminated them from their offerings altogether. Varying perspectives exist on the future performance of short-term rentals, with some believing they will behave similarly to single-family rentals during an economic downturn, while others consider them akin to hotels and hence more susceptible to market volatility.

Risks and Opportunities:

The short-term rental market’s risks are particularly apparent for less sophisticated operators and properties situated in less desirable locations. If occupancy rates decline significantly or the market becomes oversaturated with properties, these operators may struggle to generate sufficient cash flow to cover mortgage costs. Furthermore, the operational demands and complexities of managing short-term rentals can overwhelm hobbyist investors ill-equipped to handle the challenges they present.

As the market adjusts to potential downturns, opportunities may arise for investors looking to acquire distressed short-term rental properties. Distressed operators, unable to sustain their operations or eager to exit the market, may be willing to sell their properties at discounted prices. Savvy investors can capitalize on these opportunities to acquire properties with potential for long-term rental or other investment strategies by utilizing Dominion Financial’s 30-Year Rental Loan Program.

The future of the short-term rental business remains uncertain, with various factors influencing its performance. While concerns exist about the industry’s ability to withstand an economic downturn and the risks associated with less sophisticated operators, there are still opportunities for investors who approach the market with caution and thorough due diligence. The short-term rental market’s fate will likely depend on factors such as location, property uniqueness, and the ability of operators to adapt to changing market conditions. As such, closely monitoring the industry and being prepared to seize opportunities as they arise will be crucial for aspiring short-term rental investors.

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