Why We Passed On This $400,000 Costa Rica Vacation Rental

This post is part of a series that covers our experiences in Buying Our First Property In Costa Rica:

• Why We Chose Not To Buy In The Philippines
• Why We Chose The Gold Coast Over the Southern Zone
• Why We Passed On This $400,000 Vacation Rental (current post)
• Why We Chose The Convenient Center Over The Quiet Hills
• How We Financed Our First Costa Rica Property

On our first trip to Costa Rica, while driving around the different beaches in the Guanacaste area, we stumbled on an Open House sign for a development near Playa Flamingo. We saw multiple lots, where we could develop a property, and we also saw an already built spec home we could have immediately.

It was 1,950 square feet, with 3 bedrooms and 2 baths. It had a garage and infinity pool, with a view of the ocean in the distance. It was listed at $399,000.

We ended up passing on the home, and here’s what factored into that decision:

Using a rough estimate, the numbers already didn’t work

Costs for a short-term vacation rental are high. Let’s say this unit generated $40,000 per year in rental income. That $40,000, which looks like a healthy 10% return on the $400,000 sales price, gets whittled down pretty quick:

• On $40,000 rents, you pay 20% to the property manager, so we are down to $32,000 after management fees.
• You also pay at least 3% service fees marketing sites, such as AirBNB, VRBO, and Homeaway. Subtracting another $1,200 leaves us with $30,800. (see AirBNB service fee pricing)
• Electric costs are high in Costa Rica, and a vacation rental at the high end needs to offer air conditioning, so expect to pay $250/month. After spending $3000 on electric, we are left with $27,800.
• Internet would also be expected and would run another $100-150/ month. After that $1,800 deduction, we are at $26,000.
• There will be many miscellaneous fees, including insurance, taxes, HOA dues (this complex was unusually low at ~$100/month for this unit), LLC fees (because we would own the unit through a business), ongoing maintenance (for the pool, grounds, housecleaning), and long-term maintenance. These costs easily would take off another $5,000, so we are now left with $21,000.

On a $400,000 investment, $21,000 is barely 5%, and that assumes no other major costs. $400,000 is a lot of cash to fork over for just a 5% return. 

There is also little room for financing the unit. Conventional financing is hard to get in Costa Rica, and if you could find a hard money lender to give you the money, you’d still need to put down at least 35%, the interest payments will add up (additional expense), and the monthly loan payment will likely be more than the cash flow.

We weren’t sure about the numbers to begin with

The numbers already look bad starting with 10% in revenues. But could we even hit that revenue? Getting $40,000 per year implies 100% occupancy at over $100/night. 100% occupancy for a new vacation rental is unrealistic. 50% occupancy might even be too aggressive for year one. But if we take 50%, we would need to rent the unit for over $200/night. Can we get $200?

One property manager estimated the unit could get $250/night on average, but another property manager felt that a $250 rate would be realistic for peak rental months only (Christmas, Easter, summer, or 3-5 months out of the year).

Another bigger, more well-appointed house in the area was already listed at $250, so clearly our number would be less than that. It was hard to find reliable data on rates and occupancy, but what little we found made the $40,000 hypothetical revenue number already a stretch. Going back to point 1, we needed more than $40,000 in rental income to safely cover costs.

The house didn’t match our parameters

Cash flow: Other investors might be okay with a single-digit return, or even break-even or negative, hoping for appreciation. There is supposed to be more development near Playa Flamingo, and that could push prices higher. However, our investment philosophy is to buy for cash flow, not appreciation. Given that this would be our first vacation rental (all of our other rentals are long-term), it would be even riskier to veer from our conservative investment philosophy now.

Location: We really wanted to be in Tamarindo, not Flamingo, because Tamarindo is walkable to the restaurants, shops and night life. Other investors might be okay going further out to get more space, but we prioritize location over size.

Percentage of portfolio: Finally, the $400,000 price point, with little room on the cash flow to cover financing, meant that we’d need to put a considerable portion of our cash earmarked for real estate into this one deal. Ideally, we put less than 10% of our investable cash in each deal, and this deal required a larger percentage.

The seller wouldn’t lower the price

All of the above could be negotiated away if we could get the house at a lower price, below our investable cash maximum. A lower price would mean we could potentially get a satisfactory return with a lower revenue. At a low-enough price, we might even be able to generate enough revenue to market the home as a long-term rental – that would dramatically lower the costs, as property management fees drop to 10%, utility costs are borne by the tenants, and extra marketing site fees disappear.

There were several advantages to this house that made us do all this due diligence, even when the price was high:

• It was fully built out, which meant we could start earning day one, rather than waiting 1-2 years to build.
• It had much lower association fees than comparable properties.
• The amenities (pool, tennis court, hiking trails) would make this an attractive vacation rental.
• The proximity to a top school made this a versatile property also suited for long-term rental, if we opted to go that route.
• The furnishings were included, reducing some of the typical hassle with acquiring vacation property, as well as the time required to make it rent-ready
• The lot – with a view of the ocean – pushed our emotional buttons.

We were not ready to move forward at asking price, so we pitched a price that would fit our parameters.  The seller wouldn’t budge, so we walked away.

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Check out our full series on Buying Our First Property In Costa Rica:

• Why We Chose Not To Buy In The Philippines
• Why We Chose The Gold Coast Over the Southern Zone
• Why We Passed On This $400,000 Vacation Rental (current post)
• Why We Chose The Convenient Center Over The Quiet Hills
• How We Financed Our First Costa Rica Property