Luxury Real Estate Rentals - Are They Worth the Investment?
Renters Warehouse Blog
Luxury Real Estate Rentals - Are They Worth the Investment?
Beautiful mansions nestled into the hills, overlooking vast swaths of countryside or the ocean, a beckoning city skyline in distant view. For many investors, investing in a luxury property may seem like a dream come true. But are luxury rentals everything they’re cracked up to be?
The answer, of course, is that it depends! On the investment in question, the localized market conditions, the projected returns, and of course; whether these returns are in line with your investment strategy.
In this article, we’ll take a look at some things that you’ll want to consider when investing in luxury property, as well as some tips for assessing the viability of one of these investments.
What Is a Luxury Property?
The word luxury conjures up images of exclusivity, and luxury property is no exception!
The special part of owning luxury real estate isn’t just about mansions or secluded locations; it’s about projecting a lifestyle. While yes, the location plays a part, it’s also the amenities that will come with the property that amplify the experience. Think beautiful and unique architecture, proximity to high-end shopping and dining, privacy and security, and unrivaled views.
It’s the premium that people are willing to pay for in a luxury property, the unique details perceived as superior. Some high-end renters want a location with views of the waterfront, whereas others prefer mountains or countryside. The materials used to construct the property need to be above-standard, and many potential renters expect the luxury property to include technology like smart lighting and kitchen appliances, motion detectors, and solar panels.
But at the end of it all, the question comes down to: is it worth it? What options do you have to make a profit? And what should you keep in mind prior to investing in a luxury property?
Let’s take a look now.
Luxury Rental Options
Of course, luxury properties are often large, stately homes; and classified as single-family units, but luxury properties are also available as multifamily as well. You can even build your own luxury property, if you’re so inclined. Let’s break these options down:
- Buy a luxury condominium or highrise. Having a high-end luxury condominium or highrise close to transportation could be a good option. People often look for accessibility and proximity to restaurants, offices, and culture. For example, many Millennials (people born from 1981 to 1996) are looking for smaller homes as they start families later and travel more. Condos also come with sought-after luxury amenities such as a pool, fitness centers, rooftop gardens, concierge services, and security.
- Custom build a luxury property. This option takes the longest to complete but for the right investor, it can be rewarding. You can choose the floor plan layout, finishes, and the quality of the materials used. You won’t have to worry about initial repairs or upgrades and build the home based on your price points. If you’re looking to build a luxury home, ensure you consider layout and specifications that will appeal to a broader audience, but at the same time, evoke a feeling of exclusivity.
- Flipping an already existing luxury property. Buying a distressed or run down luxury property is a dream come true for many inventors. This approach allows you to secure a property for much less than it would normally cost. This makes a potentially great return on your investment. Look for high-end homes listed from short sales, trust sales, foreclosures, and any that might need renovation work. Remember to try to factor in a margin of 30%. That is, never spend more than 70% of what the property is estimated to be worth after repairs.
- Look at international properties. Investing in properties outside of the U.S. can offer a number of advantages as well, including better prices and favorable exchange rates. If you rent it as a vacation rental, you can earn additional income while having the option to vacation in it yourself.
Regardless of the option you decide to go with, if you’re looking to buy a luxury property, the initial investment may be high, but appreciation on these properties is often higher as well. And 2021 may be the year to dive into purchasing sprawling, rural luxury real estate, as this market is believed to be heading into a robust year as many seek to leave dense cities for open space and exciting outdoor activities.
It’s worth bearing in mind though, that overall yield tends to be lower on luxury properties, thanks in large part to the initial outlay that’s required to purchase one of these properties. It makes sense when you think about it, a property in rural Missouri may cost $100,000 and rent for $800 per month, whereas a property in Brooklyn will cost you $600,000 and may rent for $3,125; a much lower percentage of your investment. On the other hand though, properties in rural Missouri are cash flow winners, but they tend to experience far less appreciation.
Still, this is something that varies from property to property, so make sure you take the time to run the numbers on the property in question, carefully considering both appreciation and cash flow, before making your decision.
According to a December 2020 survey conducted by Sotheby’s International Realty, 63% of those polled in various real estate markets expect luxury home prices to rise in the next three years. And more than 70% reported there had been an increase in luxury housing demand.
The Cost of Purchasing a Luxury Property
Since a luxury property comes with exclusivity, high security, status, and outstanding architecture, the initial investment needed will be substantial. However, this does vary depending on location.
According to Christie’s 2018 whitepaper on luxury housing, the price of a luxury property in Telluride, Colorado, will start from $4m+ whereas a luxury property in Honolulu, Hawaii, begins at $2m+.
If you’re looking to invest further afield, the entry price for a property in Monaco is around $10m+ and one in Valencia Spain, is $750K. In major cities (think New York City and Los Angeles), the median list price for a luxury property in 2020 is around $7m for single-family homes.
Renting Luxury Properties
Luxury properties often generate a high gross yield, but the high cost of purchasing these properties, coupled with high ongoing expenses can take a significant bite out of your profits. Make sure you conduct an investment analysis to ensure the rent will offset any costs. You need to conduct a thorough market analysis and ensure your property is in line with what’s on the market.
Factor in Operating Expenses
You may think the most significant investment is buying the luxury property. However, when you rent it, you’ll need to take into consideration maintenance costs and put aside a certain percentage for this as well. Operating expenses can range from 35% to a whopping 80% of the gross operating income.
Thinking about managing your rental property by yourself? Read how you can make rental property management stress-free.
There’s also the cost of upgrades before renting, and ongoing upgrades as well. Tenants in luxury properties will expect the best, and won’t be happy if you try to replace the dishwasher or refrigerator with a baseline model when the current one goes out. When upgrading these properties, you’ll need to ensure that you focus on high-end throughout, something that can be costly, especially in kitchens and bathrooms.
Luxury Vacation Rentals
For a luxury short-term rental, you’ll need to find a property in a location that appeals to vacationers. Think of the sandy beaches in Hawaii, exclusive ski areas in Colorado, and perhaps even a tropical island outside of the United States.
If you are considering the luxury vacation rental route, you could take advantage of these benefits:
- Tax reductions. For this, however, ensure you meet any requirements the IRS has regarding tax benefits. For example, the home must be rented out for a minimum of 14 days out of the year. If not, it’s considered as a second home and tax reductions aren’t applicable.
- Deduct certain fees and expenses. If you have a vacation rental, you can deduct expenses such as bedding, utilities, insurance, and even legal and accounting fees.
- Use it for your own vacations. A perk about owning a luxury property as a vacation rental means you can use it to vacation in it as well. However, there is a constraint – you can’t exceed more than 14 days or 10% of the total days you rent it out to others.
(These benefits apply to standard rental properties as well).
However, below are some other considerations that you’ll want to keep in mind as well:
- Hidden Costs - Be aware that besides a mortgage, there will be upkeep costs to the property. For example, the garden will need to be maintained regularly, as well as the pool if there is one. There will have to be cleaning services after each stay, and with more people using the property, the wear and tear will be higher as well.
- Vacancies - One of the biggest issues with vacation rentals is the vacancies. Vacation properties may not be as fully booked which means lost revenue for you. If your luxury property is based overseas, factors such as natural disasters may limit travel to the area, which will negatively impact your bookings as well. Consider seasonal demand as well. A ski lodge in Colorado is unlikely to see year-round maximum occupancy unless it’s a year-round vacation destination.
- Marketing Expenditure - Getting your property marketed to potential luxury travelers will take investments in interior design, website design, high-end photography and videos, an in-depth user guide, and time. Luxury travelers want a unique experience coupled with unparalleled services, which you’ll have to ensure are met. Alternatively, there are luxury vacation websites such as Airbnb’s Luxury Retreats and onefinestay, which will showcase your property - but remember that there are fees involved with listing on these sites.
- Creating Five-Star Experiences - If you’re looking to create a five-star experience, you’ll need to make sure you have skilled and trained personnel on site. This includes skilled chefs, mixologists, masseuses, and more.
And here’s an out-of-the-box suggestion, it might be worth considering renting your luxury property as a venue for intimate weddings or private events. Renting the property for a one-day event can provide the same revenue as a vacation home for a week. There are tax benefits, and home improvements can be written off. The downsides are that you would need appropriate insurance and liability coverage and be up-to-date with local laws regarding noise levels and event permissions.
If you’re fortunate enough to be in the position to consider investing in a luxury property, make sure you do your homework upfront before diving in.
Owning a luxury property can offer a number of benefits, but it’s not a guarantee that you’ll be raking in the cash. As you would with any investment, it’s important to ensure that you’ve run the numbers, carefully factoring in the additional running costs, a higher cost of ongoing maintenance and repairs, and potentially higher vacancy rates as well.
Finally, keep in mind that these properties often produce a lower yield as a portion of your investment when compared to standard rental properties, so make sure you’ve done your research carefully and look for a property that’ll produce the kind of returns that you’re looking for, ones that are in line with your overall investing goals.
At Renters Warehouse we make the investing process simple and hassle-free. We give you the tools you need to make the right decisions, so don’t hesitate to get started with us today. Start by searching our available inventory to find a high-performing investment property, then head over to our Research Center to assess the long-term health and viability of the local housing market.
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