Primary Home + ADU as Vacation Rental in HI = Worth It?

Question

Answer

@Brie Schmidt Thanks for the shout!David L. recommended (when smart people like her make recommendations, I always listen!). Be cautious on the expenses though -- very unlikely you will ever approach a 50% expense ratio in Hawaii since there are no heaters, air conditioners, and vacancy is non-existent. I invited a friend to help build it with me, and you can read more in a series of blog posts here. I would recommend a couple things:1. if you are on a tight timeline, hire an expediter to pull permits. It was the best $1200 I spent on the project.2. Size matters - you'll get the most bang for your buck if you build a smaller ADU (like 300-350sf). I analyzed several size scenarios, and the smallest one had the highest ROI. 3. Don't skimp on electrical or plumbing since those are required to be done by a licensed person, but all the other stuff you can do on your own if you are so inclined. Also, you should be able to find some great materials on CL for cheap. There's some suggestions for saving money in the link to the blog above.Is 7% a good return? That's a different answer for every investor. When you are projecting returns, you should have a benchmark to compare against. It would not be a good return for me, because of the credit and liquidity risks of real estate. I think (long term) the stock market (VTSAX) will do 7% with much better liquidity, no work, and no credit risk ... so I would not do a deal if it was only 7% return. If it was a negative return, I would definitely not do it ... unless it was more of a flip and you were expecting a quick sale after you pick up the value boost from an addition.Best of luck!

Answer

David L. Im sorry I thought you were on Oahu, Kauai is a different county and has different tax rates and different rules. But as far as Res A (which I dont think Kauai has) it is for non owner occupants that have an assessed value over $1M pay a higher tax rate. Since you are in a designated visitor area do you really need an ADU? Could you just build a rec room with a separate entrance, throw in a bathroom and rent it out like a hotel room? If you looking for longer term rentals like monthly then maybe throw in a wetbar too.

Answer

David L. You still need to do a lot more research before you do anything. You will only be granted an ADU if you are living there (have a home exemption) and have a minimum 6 month rental lease. If not it is illegal, so no vacation rentals are allowed. If you are building a duplex or CPRing the property that is different from a ADU. ADU are restricted on the size it can be depending on zoning. If you go this route you will be able to do a vacation rental, but you will have to pay regular taxes, hotel taxes, and because you stated the property would cost $1.2M market value will most likely be over a $1m putting you in a Res A tax bracket for property tax (about double the regular rate), unless this is in a commercial zoning. Also when you say kitchen, a kitchen is a place where you can heat, cool/store, and clean/rinse. A wetbar is any of those 2, so there is a minimal difference in size. What many people do is get around having 2 kitchens by having a wetbar with a sink and fridge then after inspection passes give the tenants a stove top or hot plate. Essentially it is an illegal rental but the structure is legal so you wont have any resale problems. Hope this helps you in the right direction so you dont waste your time and money on something that you thought was possible but ends up not.

Answer

Answer

Answer

Hi Royce. I actually looked up the tax rates and yes, you're right - we are different. Thanks for that guidance. It actually helps me clarify another part of the ROI. As for the ADU, you make a good point. An ADU just seemed like a cleaner, separate way of doing this... which I still think it is but if budget is strained, I could potentially do what you're saying. If I wanted to adhere to keeping distance between the room and the main dwelling, perhaps I could do something along the lines of a room connected to garage on one side, then main dwelling connected on the other. Might save a bit more again on a single structure vs two. To touch on part of your comment, yes, I do want to keep the option of doing a LT rental if the ST route proves to be too much work for me. I'm a little weary on the kitchen vs wetbar debate simply on the idea of "feeling" I want to portray. i.e. I don't want them feeling they're in a high scale neighborhood with a ghetto hot plate, lol. But hey, maybe it can be done nicely and I just haven't seen it.Thanks for the brain storming session. It's brought up some great ideas.

Answer

Yes, I saw that in the guidelines. However, the subdivision is within a visitor designated area, which I'm learning might be more a Kauai thing only. Supposedly it allows for vacation rentals. Something I definitely need to look more into.

Answer

Answer

Keep in mind that the ADU law limits rentals to 6 months minimim?

Answer

Actually, I just finished reading the MMM blog posts and answered some of my own questions. What a great and informational piece. Thanks for sharing that. I also am half way through @Brie Schmidt's podcast where they talk about appreciation and the 1-2% rule. Seems like if I wanted to make this property worth it, I would likely have to do ST rental for both the main dwelling and ADU at as close to 100% capacity as possible to follow the 1% rule. Hopefully I'm calculating everything out correctly. Learning a lot and finding I'm asking a bunch of questions that have answers sprinkled all over the place. Lots to learn, so little time. Thanks for the guidance thus far.