Underwriting a Short-Term Rental Property

# Underwriting a Short-Term Rental Property

Underwriting a short-term rental is fundamentally different from analyzing a traditional rental property. Variable income, higher operating costs, regulatory risk, and market-specific dynamics require a specialized approach to project returns accurately.

This guide provides a comprehensive framework for underwriting short-term rental properties, applicable whether you're evaluating a new acquisition or assessing an operating property.

Table of Contents

1. [Quick Summary](#quick-summary) 2. [The STR Underwriting Framework](#the-str-underwriting-framework) 3. [Revenue Projection Methods](#revenue-projection-methods) 4. [Operating Expense Analysis](#operating-expense-analysis) 5. [Key Investment Metrics](#key-investment-metrics) 6. [Risk Assessment](#risk-assessment) 7. [How This Affects Investors](#how-this-affects-investors) 8. [How This Affects Operators and Sellers](#how-this-affects-operators-and-sellers) 9. [STR Underwriting Template](#str-underwriting-template) 10. [Worked Example: Complete Underwrite](#worked-example-complete-underwrite) 11. [Common Mistakes to Avoid](#common-mistakes-to-avoid) 12. [FAQ](#faq)

Quick Summary

• **Use multiple revenue sources** for projections—AirDNA, comparable listings, and actual data if available
• **STR operating expenses run 35-50% of revenue**—significantly higher than long-term rentals
• **Conservative occupancy (65-75%) and ADR projections** prevent overpaying for optimistic scenarios
• **Regulatory risk requires explicit assessment**—a property isn't worth much if STR becomes illegal
• **Cap rate and cash-on-cash are key metrics**, but understand their limitations for variable income

The STR Underwriting Framework

Overview of the Process

STR underwriting follows this sequence:

``` 1. Revenue Projection ├── ADR (Average Daily Rate) ├── Occupancy Rate └── Gross Booking Revenue

2. Operating Expenses ├── Variable (cleaning, supplies, commissions) ├── Fixed (mortgage, insurance, utilities base) └── Reserves (repairs, replacement, vacancy)

3. Net Operating Income └── Revenue - Operating Expenses

4. Investment Metrics ├── Cap Rate ├── Cash-on-Cash Return ├── DSCR (Debt Service Coverage) └── IRR (if projecting long-term)

5. Risk Assessment ├── Regulatory ├── Market └── Operational ```

Data Sources for Underwriting

| Source | What It Provides | Cost | Reliability | |--------|------------------|------|-------------| | AirDNA | Market data, projections, comps | $20-500/month | Good for market overview | | Mashvisor | Investment analysis, estimates | $50-250/month | Moderate | | Rabbu | Revenue estimates | Free-$100 | Varies by market | | Actual P&L | Historical performance | Free (from seller) | Best if verified | | Comparable listings | Rate and occupancy signals | Free (manual research) | Time-intensive but valuable |

Conservative vs. Aggressive Assumptions

• **Conservative (Use for Purchase Decision):**
• Occupancy: Market average or below
• ADR: Market average
• Expenses: Higher end of range
• Growth: 0-2% annually

• **Moderate (Base Case):**
• Occupancy: Market average + 5%
• ADR: Slight premium for good listing
• Expenses: Industry average
• Growth: 2-3% annually

• **Aggressive (Upside Scenario Only):**
• Occupancy: Top performer levels
• ADR: Premium for optimized listing
• Expenses: Optimized operations
• Growth: Market growth rate

**Rule: Never pay based on aggressive projections.**

Revenue Projection Methods

Method 1: Market Data Approach

Use market data tools to estimate:

``` MARKET DATA PROJECTION

• AirDNA Data for [Market, Property Type]:
• Median ADR: $185
• Median Occupancy: 62%
• Revenue Potential (90th percentile): $58,000

• Conservative Adjustment:
• Assume 75% of median = new listing/learning curve
• ADR: $185 × 0.90 = $167
• Occupancy: 62% × 0.85 = 53%

• Projected Annual Revenue:
• Available nights: 365
• Booked nights: 365 × 53% = 193
• Revenue: 193 × $167 = $32,231 ```

Method 2: Comparable Listing Analysis

Manually research active listings:

**Process:** 1. Find 5-10 comparable listings (same bedrooms, similar location) 2. Note their rates across seasons 3. Estimate their occupancy from calendar 4. Calculate their implied revenue

**Example:**

| Comp | Bedrooms | ADR | Est. Occupancy | Est. Revenue | |------|----------|-----|----------------|--------------| | 1 | 3 | $195 | 70% | $49,822 | | 2 | 3 | $175 | 65% | $41,519 | | 3 | 3 | $210 | 60% | $45,990 | | 4 | 3 | $165 | 75% | $45,169 | | 5 | 3 | $185 | 68% | $45,917 |

**Average: $45,683 | Conservative (80%): $36,546**

Method 3: Actual Performance Data

If buying an operating property:

• **Required Documentation:**
• Booking platform statements (12+ months)
• Revenue by month
• Occupancy by month
• Cleaning logs/receipts
• Utility bills
• Maintenance records

• **Verification:**
• Cross-reference platform data with bank deposits
• Check for unusual spikes (one-time events)
• Understand seasonality patterns
• Identify personal use days (blocked, not booked)

Seasonality Considerations

STR revenue varies by season:

| Season | Revenue Impact | Adjustment | |--------|---------------|------------| | Peak | 140-200% of average | +40-100% ADR | | Shoulder | 80-100% of average | Base ADR | | Off-season | 40-70% of average | -30-50% ADR |

**Monthly projection is more accurate than annual average.**

Operating Expense Analysis

Variable Expenses (Revenue-Dependent)

| Expense | % of Revenue | Notes | |---------|--------------|-------| | Platform commissions | 12-15% | Airbnb, VRBO fees | | Credit card processing | 2-3% | Direct bookings | | Cleaning | 8-12% | Per turnover, varies by size | | Supplies/consumables | 2-4% | Toiletries, paper goods, coffee | | Laundry/linens | 1-3% | Replacement and cleaning | | Dynamic pricing tools | 0.5-1% | PriceLabs, Wheelhouse |

**Typical Variable Total: 25-35% of revenue**

Fixed Expenses (Revenue-Independent)

| Expense | Typical Annual | Notes | |---------|---------------|-------| | Mortgage (P&I) | Varies | Based on financing | | Property taxes | 0.5-2.5% of value | Location-dependent | | Insurance (STR) | $2,000-5,000 | Specialized STR coverage | | Utilities | $2,400-6,000 | Climate-dependent | | HOA fees | $0-6,000 | If applicable | | Property management | 15-25% of revenue | If using PM | | Lawn/pool | $1,200-3,600 | If applicable | | Pest control | $300-600 | Preventive maintenance | | WiFi/streaming | $1,200-2,400 | Essential utility | | Software/tools | $300-1,000 | PMS, pricing, etc. |

Reserve Expenses

• **CapEx Reserve:** 5-10% of revenue
• Furniture replacement
• Appliance replacement
• Major repairs
• HVAC, roof, etc.

• **Vacancy Reserve:** Already in occupancy projection
• Don't double-count

Total Expense Calculation

``` EXPENSE CALCULATION EXAMPLE

Projected Revenue: $60,000

• Variable Expenses:
• Platform fees (14%): $8,400
• Cleaning (10%): $6,000
• Supplies (3%): $1,800
• Laundry/linens (2%): $1,200
• Subtotal: $17,400 (29%)

• Fixed Expenses:
• Property taxes: $4,000
• Insurance: $3,000
• Utilities: $4,200
• HOA: $0
• Lawn care: $1,800
• Pest control: $400
• WiFi/streaming: $1,800
• Software: $500
• Subtotal: $15,700

• Reserves:
• CapEx (7%): $4,200

Total Operating Expenses: $37,300 Operating Expense Ratio: 62% ```

Key Investment Metrics

Net Operating Income (NOI)

``` NOI = Gross Revenue - Operating Expenses

Example: Revenue: $60,000 Expenses: $37,300 NOI: $22,700 ```

Cap Rate

``` Cap Rate = NOI / Purchase Price

Example: NOI: $22,700 Purchase Price: $400,000 Cap Rate: 5.68% ```

• **STR Cap Rate Benchmarks:**
• Below 5%: Likely overpriced
• 5-7%: Market rate in strong markets
• 7-10%: Good investment territory
• Above 10%: Verify assumptions

Cash-on-Cash Return

``` Cash-on-Cash = Annual Cash Flow / Total Cash Invested

Example: NOI: $22,700 Debt Service: $18,000 (mortgage P&I) Cash Flow: $4,700

• Cash Invested:
• Down payment: $80,000
• Closing costs: $8,000
• Furnishing: $25,000
• Reserves: $10,000
• Total: $123,000

Cash-on-Cash: $4,700 / $123,000 = 3.8% ```

• **Cash-on-Cash Benchmarks:**
• Below 4%: Weak, unless appreciation play
• 4-8%: Acceptable for growth markets
• 8-12%: Good cash flow investment
• Above 12%: Verify assumptions

Debt Service Coverage Ratio (DSCR)

``` DSCR = NOI / Annual Debt Service

Example: NOI: $22,700 Debt Service: $18,000 DSCR: 1.26x ```

• **DSCR Benchmarks:**
• Below 1.0: Negative cash flow
• 1.0-1.2: Tight, little margin
• 1.2-1.5: Healthy coverage
• Above 1.5: Strong cushion

Risk Assessment

Regulatory Risk

**Assessment Framework:**

| Factor | Low Risk | Medium Risk | High Risk | |--------|----------|-------------|-----------| | Current legality | Permitted | Allowed, unregulated | Restricted/gray area | | Trend | Stable/loosening | Status quo | Tightening | | Enforcement | Minimal | Moderate | Active | | Political climate | Supportive | Neutral | Hostile |

• **Due Diligence:**
• Review city/county STR ordinances
• Check zoning for property
• Verify permit requirements
• Research recent regulatory changes
• Assess political direction

Market Risk

• **Factors to Evaluate:**
• Tourism trends (growing/stable/declining?)
• New hotel/STR supply
• Economic dependence (single employer, seasonal)
• Natural disaster exposure
• Competition saturation

Operational Risk

• **Considerations:**
• Distance from you (remote management challenges)
• Local contractor availability
• Seasonality severity
• HOA restrictions
• Property condition

How This Affects Investors

When evaluating STR investments:

• **Critical Due Diligence:**
• Verify revenue claims with documentation
• Independently estimate using market data
• Understand local regulations fully
• Factor all expenses, not just what seller claims
• Apply conservative assumptions

• **Negotiation Leverage:**
• Use underwriting to support offer price
• Don't pay for seller's best-case scenario
• Factor in transition period revenue dip

A marketplace connecting sellers with investors provides access to properties with documented performance.

How This Affects Operators and Sellers

• **For Sellers:**
• Accurate financials help buyers underwrite fairly
• Documentation speeds due diligence
• Realistic expectations lead to smoother transactions
• Verified performance justifies asking price

• **Documentation to Prepare:**
• 12+ months of platform statements
• Expense receipts and bills
• Occupancy calendars
• Revenue by source (Airbnb, VRBO, direct)

STR Underwriting Template

``` STR UNDERWRITING TEMPLATE

PROPERTY INFORMATION Address: ____________________ Type: ____________________ Bedrooms/Baths: ____/____ Square Feet: ____________________ Year Built: ____________________ Asking Price: $____________________

REVENUE PROJECTION Data Source: [ ] AirDNA [ ] Comps [ ] Actual [ ] Other Projected ADR: $____________________ Projected Occupancy: ____% Available Nights: 365 Booked Nights: ____ Gross Revenue: $____________________

VARIABLE EXPENSES Platform Fees (14%): $____________________ Cleaning: $____________________ Supplies: $____________________ Laundry/Linens: $____________________ Credit Card Fees: $____________________ Other Variable: $____________________ Subtotal Variable: $____________________

FIXED EXPENSES Property Taxes: $____________________ Insurance (STR): $____________________ Utilities: $____________________ HOA Fees: $____________________ Lawn/Pool: $____________________ Pest Control: $____________________ WiFi/Streaming: $____________________ Software/Tools: $____________________ Property Management: $____________________ Other Fixed: $____________________ Subtotal Fixed: $____________________

RESERVES CapEx Reserve (7%): $____________________ Other Reserves: $____________________ Subtotal Reserves: $____________________

TOTAL OPERATING EXPENSES: $____________________ OPERATING EXPENSE RATIO: ____%

NET OPERATING INCOME: $____________________

FINANCING Down Payment: $____________________ Loan Amount: $____________________ Interest Rate: ____% Loan Term: ____ years Monthly P&I: $____________________ Annual Debt Service: $____________________

INVESTMENT METRICS Cap Rate: ____% Cash-on-Cash Return: ____% DSCR: ____x

TOTAL CASH REQUIRED Down Payment: $____________________ Closing Costs: $____________________ Furnishing: $____________________ Startup Reserves: $____________________ TOTAL: $____________________

RISK ASSESSMENT Regulatory Risk: [ ] Low [ ] Med [ ] High Market Risk: [ ] Low [ ] Med [ ] High Operational Risk: [ ] Low [ ] Med [ ] High

DECISION [ ] Proceed at asking price [ ] Proceed at offer price of $____________________ [ ] Pass ```

Worked Example: Complete Underwrite

Property Details - 3BR/2BA house in Gatlinburg, TN - Asking price: $525,000 - Fully furnished, turnkey - Operating for 2 years - Seller provides 24 months of data

Revenue Analysis

• **Seller's Claimed Revenue:**
• Year 1: $78,000
• Year 2: $82,000
• Average: $80,000

• **Independent Verification:**
• AirDNA Market Data: $72,000 median for 3BR
• Comparable listings: $68,000-85,000 range
• Seller's data reviewed: Consistent, verified

• **Conservative Projection:**
• ADR: $225 (seller averaged $235)
• Occupancy: 68% (seller averaged 72%)
• Projection: $55,845 (conservative)
• Base case: $65,000 (80% of claimed)

Expense Analysis

| Category | Amount | % of Revenue | |----------|--------|--------------| | Platform fees | $9,100 | 14% | | Cleaning | $7,800 | 12% | | Supplies | $1,950 | 3% | | Laundry | $1,300 | 2% | | Property taxes | $3,800 | - | | Insurance | $3,200 | - | | Utilities | $4,800 | - | | Lawn | $1,800 | - | | WiFi/streaming | $1,800 | - | | Software | $600 | - | | CapEx reserve | $4,550 | 7% | | **Total Expenses** | **$40,700** | **63%** |

Investment Metrics

``` Revenue (base case): $65,000 Operating Expenses: $40,700 NOI: $24,300

Cap Rate: $24,300 / $525,000 = 4.6%

Financing (20% down, 7% rate, 30 yr): Loan: $420,000 Annual Debt Service: $33,500

Cash Flow: $24,300 - $33,500 = -$9,200 (negative!)

• Total Cash Required:
• Down payment: $105,000
• Closing: $12,000
• Already furnished: $0
• Reserves: $15,000
• Total: $132,000

Cash-on-Cash: -$9,200 / $132,000 = -7.0% ```

Decision

• At asking price ($525,000), this property:
• Has a cap rate below target (4.6% vs. 6%+ goal)
• Is cash flow negative with standard financing
• Requires seller revenue to be fully realized

**Offer Strategy:** To achieve 6% cap rate: $24,300 / 0.06 = $405,000 To achieve cash flow positive: Reduce by ~$100,000

**Recommendation:** Offer $425,000 (19% below asking) or pass.

Common Mistakes to Avoid

1. **Using seller's best month annualized:** Always use trailing 12 months minimum, preferably 24.

2. **Ignoring seasonality:** Vacation markets can have 3x variance. Monthly projections are more accurate.

3. **Underestimating expenses:** STR expenses are 35-50% of revenue. Don't use long-term rental assumptions.

4. **Ignoring platform fees:** 12-15% goes to Airbnb/VRBO. This is real cost.

5. **No CapEx reserve:** Furnishings wear out. Appliances break. Budget 5-10% for replacement.

6. **Assuming current regulations continue:** Research regulatory trends. A legal STR can become illegal.

7. **Paying for projected revenue, not actual:** Buy based on documented historical performance or conservative projections.

FAQ

What cap rate should I target for STR investments?

Aim for 6-8%+ in most markets, understanding that hot markets may see lower caps. Below 5% is typically overpriced unless you have strong appreciation thesis.

How do I project revenue for a property that hasn't operated as STR?

Use AirDNA data plus comparable listing analysis. Apply conservative assumptions (75-80% of market median). Assume 6-12 month ramp-up period for new listings.

Should I trust seller-provided financials?

Verify everything. Request platform statements, bank records, and expense documentation. Cross-reference claimed revenue with deposits. Healthy skepticism protects you.

How do I account for personal use in projections?

If current owner blocks dates for personal use, that's lost revenue opportunity. Add those nights back at projected ADR for true revenue potential—but confirm regulations allow those nights.

What's a reasonable expense ratio for STR?

35-50% of gross revenue for self-managed properties. Add 15-25% more for professional property management. Below 35% likely underestimates true costs.

How do I value furnishings in a turnkey purchase?

Request inventory with purchase prices. Depreciate based on age. Quality furnishings might be worth $20,000-40,000 for a typical home. Deduct from property price or treat as separate asset.

Should I use IRR or cash-on-cash for STR analysis?

Use both. Cash-on-cash tells you annual return on invested capital. IRR factors in time value and exit value. For short hold periods, cash-on-cash may matter more. For long-term holds, IRR is comprehensive.

How do I factor regulatory risk into my underwriting?

Research thoroughly and price it in. If there's meaningful regulatory risk, apply a discount to your offer or require contingencies. Some markets aren't worth the risk at any price.

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*Looking for investment-ready short-term rentals with documented performance? Browse listings on a marketplace connecting sellers with serious investors.*

• **Internal Links:**
• [Investor Checklist: Analyze Any Rental Deal](/blog/investor-checklist-analyze-rental-deal)
• [Pricing Furnished Rentals for Maximum Profit](/blog/pricing-furnished-rentals-maximum-profit)
• [Insurance Essentials for Furnished Rentals](/blog/insurance-essentials-furnished-rentals)
• [Short-Term Rental Regulations: What Investors Watch](/blog/short-term-rental-regulations-investors-watch)

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*Consult a professional for your specific situation.*