There has recently been a rise in properties for sale that are described as “Turnkey STR,” a term that has come to mean a property that is fully operational as a short-term rental and being sold as a complete package. These are often properties that have recently been upgraded, are very tastefully designed and furnished, are licensed as STR, and that have been generating steady income for the seller. These homes have been drawing a lot of attention from individual investors eager to get started in the rental business, but as with many things in real estate, it is often not quite as simple as writing a check and jumping right in. While “Turnkey STR” seems attractive, there are some things you should be aware of.
Appraisal Gaps are Huge with Turnkey STR
In many cases investors are selling successful STR businesses because the demand for them is very strong. With a solid rental history and potential profit, these properties seem very attractive to small investors who see turnkey as a way to skip the many steps it takes to startup a STR business. This readiness comes at a cost and these properties are offered at very significant premiums over other homes. The work the investor did in design, renovation, set-up and then successfully bringing guests is reflected in the price of the home so be prepared that this work comes at a premium price. If you the buyer has cash, this may make for a wise investment. If you are financing, you better prepare for some work.
Financing a property with a mortgage requires the property be appraised and the value of the loan will depend on the appraised value. Real estate appraisals depend on comparable value and strict guidelines for appraisers mean that furniture, furnishings and rental history contribute no value to the appraisal and thus the appraised value will likely be much lower than the purchase price and this gap is known as an Appraisal Gap. If you are looking to use a standard mortgage to purchase a Turnkey STR and successfully compete with cash buyers, you should prepare to address this appraisal gap with a pledge of cash to cover the gap. If you don’t have plenty of cash to cover the appraisal gap, one way around this is to use a business loan rather than a typical mortgage because your purchase of a Turnkey STR is really the purchase of a business. One common type of business loan for investment real estate is DSCR which looks to use rental income and property value as the basis for the loan, but you should look deep into whether the lender can let you use STR income for a DSCR loan.
Turnkey STR isn’t really Turnkey
While a property that is currently operating as a short-term rental can quickly shift from one owner to another, not everything will transfer hands. Look deeply into these potential roadblocks to a quick transfer:
Municipal STR Licenses: In the Poconos, most municipalities require a license to operate a short-term rental. The license often requires an inspection and certain guarantees provided by the new owner. Licenses are generally not transferrable, so before you buy, double check with the local township or borough as to what is required for a license. Check out my Pocono STR Municipal Scorecard for links to township rules and regulations.
Reviews: Most booking sites (Airbnb, VRBO, etc.) take the position that the review is mostly about the operator and not the property, thus the listing with its reviews does not transfer when you purchase a rental property. The rare exception may be the full purchase of a company that owns and operating the property, but for the vast majority of short-term rentals, the listing, with all the descriptions, photos and reviews will not transfer. Check the community forums on the listing sites for more detail on transfer of property ownership in STR.
Future Reservations: Like the reviews, future reservations won’t transfer. There are creative ways in which you can try to retain the booking as long as the property’s buyer and seller and in agreement on a plan. A reservation may be viewed by the seller as an asset, and while it should cancel at the settlement, the seller can let the future guest know in advance that a new owner is taking over the property and may be contacting them about rebooking. Of course, this will depend on how quick the new owner will get their license and get set-up with their community association, so this is a delicate process potentially filled with risk as Airbnb and VRBO do not like it when hosts cancel reservations. Read more on Transferring Future STR reservations
This all gets further complicated when a seller is listing a property for sale and continuing to run their STR. Booking real estate showings around STR guest stays is difficult, frustrating and in many ways indicates that a seller is not really serious about selling. The seller of a successful STR may be testing the waters or may be thinking “what do I have to lose by listing?” You as the buyer should think hard about what you are really gaining in buying a “Turnkey STR.” The Appraisal Gap is one thing that gets quickly measured, but the Operations Gap in buying an existing short term rental property may be much harder to calculate and predict.