Gatsby Investment has created a unique, profitable niche in the Los Angeles housing market.
If you’re not yet familiar with our primary investment model, here’s a quick overview: We develop smaller multi-family buildings (typically 4-6 units) on lots that were previously zoned for single-family only. Not only does this help create much-needed housing inventory, but these projects can be completed more quickly, with less risk than larger buildings.
But there’s one more component of our success in this niche: our short-term rental holding strategy.
Rather than selling the property immediately upon completion, we hold the property as a rental for a short time (typically around 12 months). This provides several benefits for our investors. So we wanted to explain this strategy and discuss the investor advantages of the short-term rental holds.
Why Gatsby Adopts a Short-Term Rental Holding Strategy
While we aim to maximize the value of the property during the development phase, filling the units with renters and selling the stabilized project provides five key benefits over selling a vacant new-construction building.
1. Lower Capital Gains Tax Rates
The federal tax code distinguishes between short-term capital gains and long-term capital gains for tax purposes. Short-term capital gains (profits on investments held for less than one year) are taxed at normal earned income rates. Long-term capital gains, on the other hand, are taxed at favorable, lower capital gains rates.
By holding the completed property as a rental holding for just 12 months, we meet the threshold for long-term capital gains tax treatment upon the sale of the asset, which significantly improves the after-tax return for our investors.
2. Higher valuation through the income approach
A vacant multi-family structure has no income for investor-buyers to use in estimating a fair market price for their purchase offer. But a stabilized property has proven rental income, which buyers and appraisers can use to justify a higher price based on Net Operating Income (NOI) and market capitalization rates (Cap Rates).
This can ultimately lead to a higher sales price and larger profit margin for our investors.
3. Rental Income Potential for Investors
During the short-term rental holding period, any rental income is collected by Gatsby as the project’s sponsor. As equity investors, you are entitled to a share of this income, which is distributed on a quarterly basis. This rental income first helps offset property expenses and then provides cash flow to investors.
4. Wider Buyer Pool for the Resale
The buyer pool for vacant multi-family buildings is typically limited to value-add investors willing to handle the lease-up themselves.
By filling the units with tenants, we expand the buyer pool to include institutional investors (such as real estate investment trusts (REITs), pension funds, and insurance companies) as well as many private equity groups that only buy stabilized, income-producing assets. These Core and Core Plus investors are more likely to pay a premium for immediate, low-risk cash flow, ultimately boosting the sales price and investor returns.
5. Increased Leverage in Negotiations
A vacant property incurs carrying costs without generating any income to offset those expenses. This puts a lot of pressure on the owner-developer to sell as quickly as possible to stop the negative cash flow.
When an asset is generating its own income, however, we can afford to wait for the right offer from the right buyer, giving us greater flexibility in negotiations.
Leverage Gatsby’s Short-Term Rental Holding Strategy for Your Portfolio
Are you ready to boost your real estate portfolio with Gatsby’s short-term rental holding strategy? Browse our available investment opportunities online or schedule a consultation with a dedicated investor relations specialist today!