Is it worth it? Numbers behind STR vs. Stocks/Index Fund

[Frank DiMilo]

Hi, I'm interested in getting into real estate, and I started modeling out some numbers based on a potential vacant rental in Florida (and some other places as well). I wanted to ask the Pros here because, given what the math is telling me, it's extremely hard to justify investing in real estate over something like an index fund. I do know that a lot of you invest in STR and LTR successfully, so I'm hoping you can help me understand where my blind spots are.

Here is what I've modeled out based on a hypothetical property in Florida (near the beach).  These are all rough numbers, and you'll seem I'm being very generous in several places w/r/t the real estate investment.  Despite that, an investment in the stock market (chosen at least halfway intelligently) seems like the better bet.  I feel like I'm wrong and would love to find out how. 

What am I missing?  (sorry for the long post- thought it would be better to give you more data).

$100k Property Price

20% Down = $20k

Initial Rehab + Furnishings, etc.: $5k

Additional Year 1 Expenses:

Mortgage: $6.6k

Closing Costs: $3k

Insurance: $1k

Property Tax: $920

VR Platform Take (eg. VRBO): $705

VR Tax: $1.4k

Maintenance: $1k

Utilities: $2.2k

Operating Expenses (Maintenance, Rehab, Insurance): $7k

Assuming $99/night on average, with 65% occupancy

Monthly Rental Income (less VR platform take): $1,899

Yearly Rental Income: $22,783

Taxable income (Gross Rental Income - Operating Expenses) = $14,913

Income Tax (est. 35%): $5,220

Cash Flow (Yearly Rental Income - (down payment, mortgage payment, closing costs, insurance, property tax, VR take, VR tax, income tax, maintenance, initial rehab/furnishings, utilities)) = $22,783 - $47,045 = -$24,622

So, on a purely cash basis I’m out ~$24k in the first year. Not the worst thing in the world. I’ll get to the equity piece in a bit- just thinking about the cash right now.

Year 2 looks like roughly +$3k after everything. Not bad.

My model runs numbers for 30 years and shows me that I’m cash-flow positive in Year 1, and am all-in cash-flow positive in Year 8 (meaning the running net income I’ve earned covers yearly expenses and my initial investments such as the down payment, property rehab, etc.).

This is all fine, and at Year 30 the cash income + home value (both with appreciation) are roughly $450k. Inflation not taken into consideration (although it probably should be).

$450k is not bad. As an alternative hypothesis I modeled my return from investing in something like an index fund, using my initial cash investment ($20k down + $5k initial rehab), adding the $6.6k mortgage every year, and compounding annually by 6%. I currently do much better than 6%, but I’m trying to be conservative here.

Even with relaxed estimates on the real estate side and more conservative estimates on the stock side, here is what I’d have at Year 30:

Real Estate: ~$450k

Stocks (some investment at 6%): $623k

If I use the historical rate of return for the S&P 500 (9.8%), I have ~$1.3M at Year 30. Plus, index funds are entirely passive, so to the extent I value my time >$0 I’m doing that much better with the stock market.

I understand that there are potential caveats- stock market crash, real estate crash, etc. This is a very simple method because I’m trying to understand if real estate is even in the ballpark of a logical investment. Based on these numbers, it’s not.

Here are some assumptions I’m using (I feel they are very generous). All are yearly #s unless otherwise noted.

Mortgage: 3%, 15 year fixed

Insurance: 0.95%

Property Tax: 0.92%

VR Tax: 6%

Income Tax (State): 0%

Income Tax (Fed): 35%

HOA: $0

Utilities: $2,200

Utilities Yearly Increase: 1%

Maintenance: 1%

Daily Rent: $99

Occupancy: 65%

Cleaning: $0 (being generous here, often this is an add-on fee on VR platform)

Yearly Property Appreciation: 2%

Yearly Daily Rent Increase: 2%

Property Management: 0% (way too generous here)

What I would love to understand is if any of my assumptions or calculations look way off, or if I’m misinterpreting what it means to invest in real estate in general.

Potential, useful criticisms:

• -The way you calculated taxes is all wrong- you’d never pay that much
• -The way you make money is to get cash flow going and trade up to a bigger property or more properties, not necessarily to hold onto a $100k property for 30 years.
• etc.

Again, I understand there are some caveats here but just trying to make sense of the investment. I’m probably being too generous- if you eyeball the cap rate it’s north of 20% after the first year. I’m very interested in investing in the real estate market if it makes sense, but I feel like I have a huge blind spot here given many people seem to be participating in real estate investing (successfully?) at much lower cap rates.

Any ideas?