If you’re thinking of investing in a vacation rental, your vacation rental pro forma will guide your decision on whether to invest in a property.
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The phrase pro forma is of Latin origin, and it means “as a matter of form.” In law, it refers to all the formal proceedings that need to take place in order to move a legal process forward. In business, it describes a pro forma financial document or the pro forma process, which predicts future expenses and income.
But, what does pro forma mean in real estate? Pro forma real estate analysis can help project how a property will perform financially in the long term.
Learn More: What Is Pro Forma Real Estate, and How to Calculate It
Real estate investors who buy investment properties usually rent them out to generate cash flow. Here, we will bring you closer to vacation rental pro forma and how it works.
What Is a Vacation Rental Pro Forma
A vacation rental pro forma is both a method of analysis and the end financial statement. Technically, it lists actual revenue and expenses in one column and estimated revenue and expenses in another column.
Much as enterprises use pro forma to make their business predictions, realtors and investors use it to determine a property’s potential. They can calculate whether the initial investment (along with all other efforts related to property management) is worth the long-term profit.
The vacation rental pro forma report is a document that combines real information about a vacation property (e.g., current or past rental income) and projections. This information is required for the most accurate assessment of the potential future financials of an investment property.
Typically, a vacation real estate pro forma includes a property’s:
- NOI (Net Operating Income)
- Cash flow projections
These metrics help forecast how your vacation rental will perform with a few important variables in mind. For example, if you hired a property manager, made improvements, shrunk the vacancy rate, or raised tents. All the metrics can be obtained by using the right rental calculator tool.
Related: The Best Vacation Rental Income Calculator
Importance of Vacation Rental Pro Forma for Investors
Real estate investors use pro forma reports to ensure that their financial projections and expectations are as accurate and viable as possible. The two essential pieces of data (NOI and cash flow projections) are also used in other important investment property calculations, such as cap rate, cash on cash return, and ROI. All these calculations allow you to create a risk profile to estimate your Airbnb earnings and see if your investment makes sense.
If your vacation rental pro forma has the wrong cash flow or NOI, you could end up overpaying for an underperforming vacation rental property, or miss a good investment. All that could happen due to a bad vacation rental pro forma report that wreaked havoc on other essential financial metrics.
It is critical for you, as an investor, to make your pro forma as accurate as possible. Both experienced and beginner real estate investors can experience difficulties when trying to find up-to-date and accurate market information.
To learn more about how we will help you make faster and smarter real estate investment decisions, click here, or schedule a demo with one of our sales representatives:
How to Calculate Vacation Rental Pro Forma
The first move on calculating your vacation rental pro forma is to estimate the following items:
- Projected Gross Rental Income (GRI). GRI is the income your vacation property would bring if it was completely booked all the time at market rent.
- Vacancy rate. How many vacant units you’ll have at any given moment as well as how often they might occur.
- Mortgage payment. If you finance your investment with a mortgage, how much will it cost you each month?
- Property management fees. Such fees include what you’ll pay to a building super, property management company, or property manager.
- Repair expenses. A projection of how much property repairs would cost you over a one-year period. Setting aside a part of your monthly rental income for potential repairs would be a smart move.
- Other expenses. Legal fees, leasing costs, insurance costs, tax fees, etc.
The pro forma always begins by demonstrating the potential revenue of a vacation rental property if it were continuously occupied, with tenants paying market rates. Then, you have to make the necessary adjustments and deductions because properties are almost never completely occupied. Also, not all tenants will pay market rates. Some of them will pay higher rates, and others might pay lower.
Each one of these pro forma elements corresponds to the following points:
- Base Rental Income. The potential rental income if it were always occupied, with tenants paying market rent. Mashvisor can help you make an accurate rent estimate that will ensure profitability.
- Concessions and Free Rent. Imagine someone books your vacation rental for 20 days for a daily rate of $140. If you grant them two rent-free days, you will have to account for the revenue loss.
- Turnover Vacancy and Absorption. This item represents the foregone income when an occupant leaves your vacation rental, and it takes a few days to find a new one. It is considered a loss of potential income.
- Expense Reimbursements. This is the amount of maintenance, insurance, and property taxes that should be paid by the occupants. The expenses they must pay are specified when they lease.
- Potential Gross Revenue. This calculation shows the potential gross income or revenue for the property and it is the sum of all the items above.
- General Vacancy. This shows the Potential Rental Income you would lose to permanently vacant spaces. This makes sense if you’re renting a building with spaces you have no plans for. Since you’re renting an entire vacation property, this doesn’t apply here.
- Effective Gross Income (EGI). Effective Gross Income is similar to Net Revenue or Net Sales for a company. The difference is that EGI is on a cash basis. It shows the cash revenue your property generates after the adjustments for free months of rent and permanent/temporary vacancy.
This is where the Revenue section of your vacation rental pro forma ends.
Related: How to Determine Rental Demand Before Buying an Investment Property
Property Expenses in Your Vacation Rental Pro Forma
Property expenses included in your vacation rental pro forma are much easier to explain. They are:
Operating Expenses. These include utilities, maintenance, repairs, insurance, and other miscellaneous items.
Property Management Fees. Some vacation rentals are managed by their owners, while others decide to hire property managers for the job. Property managers are there to deal with tenants, resolve issues, collect rent, and set up maintenance and repairs. The fees paid to them are typically a percentage of EGI.
Property and Real Estate Taxes. All governments charge a tax on properties. It’s usually a small percentage of the property’s assessed value. As the assessed value goes up, the taxes also increase.
Other Important Calculations
Vacation rental pro forma calculation is a crucial piece of investment information used for bringing the best decisions. To get the fullest picture of risk and return, it is best used along with other projection tools. Therefore, a detailed pro forma report will include other calculations that are helpful in guiding investment decisions. These calculations are:
- Cash on Cash Return. This is the annual measure of an investor’s earnings on a vacation rental property. The number is compared to the amount of money you had initially spent to buy the property and make it operational.
- Return On Investment (ROI). Return on investment is an omnipresent metric in all types of businesses. It will tell you how much Airbnb earnings you can expect over the long term. Calculating ROI can only be done once you calculate your annual revenue or rental income.
- Cap Rate. In real estate, the cap rate shows the expected rate of return on your vacation rental property. It indicates your property’s net gain/loss over a one-year period.
Always bear in mind that your vacation rental pro forma report is an estimate based on projections and assumptions. It is calculated using financial know-how, history, and market research, which you need to make smart investment decisions.
So, the final Pro Forma calculation formula looks like this:
Pro Forma NOI = GRI – Vacancy Expenses (Vacancy Rate x GRI) – All Other Expenses
Other Ways to Find a Profitable Vacation Rental
Investing in a vacation rental property is one of the smartest first moves you can make in the real estate business. Of course, presuming that you know how to find the right one. Finding the right vacation investment property and calculating pro forma for each of them can be quite a daunting task.
Mashvisor is a powerful platform leveraged by real estate professionals and investors. It brings up-to-date and accurate data together with AI-based analytics tools. The result? Ability to locate property with great profit potential and perform detailed real estate analysis to guide your investment decisions.
To start looking for and analyzing the best investment properties in your city and neighborhood of choice, click here.
With Mashvisor, you can:
Find the Ideal Location for Your Vacation Rental Investment
When it comes to investing, location matters very much because it determines every aspect of your property. And by “every aspect”, we mean everything from its profitability to price. The best place to invest in a vacation rental is the one with a high demand for vacation getaways.
The best indicators of this are the strong influx of tourists and attractions that make the city popular. This is typically true for cities that are near lakes, national parks, mountains, and beaches.
On the other hand, it all depends on your budget. If your budget is not that big, then you should find a location that has affordable properties. Looking at vacation rental data for cities is the best way to research any vacation rental investment market. For example, here is Mashvisor’s April 2022 data for Columbus, MN:
- Airbnb Rental Income: $5,870
- Airbnb Cash on Cash Return: 6.67%
- Airbnb Cap Rate: 6.78%
- Airbnb Daily Rate: $363
- Airbnb Occupancy Rate: 59%
- Median Property Price: $563,622
- Average Price per Square Foot: $226
- Days on Market: 80
You can find some of Mashvisor’s data for major cities in the US on our blog. We have also compiled a list of the best vacation rental markets in 2022.
Once you have performed a thorough neighborhood analysis to find the best-performing neighborhoods within a city, it’s time to start your property search. In order to make a successful vacation rental investment, you need to narrow down your search. You only want to check the properties that fit your investment goals and budget.
You can do it either with our Property Finder or with a hired real estate agent. Our tool helps you find investment properties for sale with a high ROI based on your pre-set criteria. You can narrow down your search by setting the following filters:
- Property type
- Rental strategy
- Number of bathrooms/bedrooms
Conduct Vacation Rental Property Analysis
Once you’ve narrowed down your choice to a few affordable properties, it’s time to analyze each one of them for their potential for profits. With Mashvisor’s rental property calculator, you can avoid doing manual research and get the necessary metrics and numbers in a matter of minutes.
The rental property calculator completes your investment analysis to provide you with a full report containing all critical metrics. All the metrics are calculated according to the data from the local real estate market and vacation rental comps, and include:
- Rental income
- Rental expenses
- Cash flow
- Cash on cash return
- Cap rate
- Occupancy rate
As a cherry on top, the tool will provide you with a breakdown of rental expenses. It’s up to you to adjust the numbers and the rental income calculator will redo the calculations to come up with more precise projections.
A vacation rental pro forma doesn’t offer a secure look into the future. Actually, there are a plethora of unpredictable factors that can make or break an investment property. An accurate pro forma report can go a long way in helping you locate your perfect vacation investment property.
Researching for lucrative vacation rental investment properties and making a pro forma for each one of them can really be time-consuming. The truth is you need to access and research large amounts of information. By using Mashvisor, you will get all the necessary data and remove the human error factor that can mess up your calculations.
From the Property Finder to Real Estate Analysis features, you can use Mashvisor to find the right vacation rental property and calculate your vacation rental pro forma.
To get access to our real estate investment tools, click here to sign up for a 7-day free trial of Mashvisor today, followed by 15% off for life.