Financial Side to Condo Hotels

Author: Tara Peterson

June 29, 2007

 

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Deposits Required to Secure a Pre-Construction Condo Hotel Purchase

Many developers will have a potential purchaser put down a fully refundable reservation deposit prior to signing the actual purchase agreement.  The reservation deposit will secure your ability to make a purchase once the developer makes the property available for sale to the general public.  In other words, it holds your place in line in the event that you wish to make a purchase.  Most reservation deposits are $5,000.  Although that figure can reach upwards of $20,000 for some of the highly sought after properties,

 

Upon making a purchase and signing the purchase contract, you’ll likely be required to put down 10% of the purchase price.  Your reservation deposit can be rolled into this initial down payment.  Six to twelve months later, you’ll likely have to put down another 10% of the purchase price.  By and large, that is all you’ll have to commit until the condo hotel is completed and ready for operation.

 

Generally, it takes 18 – 24 months from the time of purchase before the hotel is completed.  Once this stage is reached, you’ll close on the property.  Upon closing, you will obtain financing and begin making monthly mortgage payments.

 

 

Understanding Cash Flow and Finding Proper Rental & Occupancy Rates

Need a little help understanding how to estimate the amount of rental revenue a condo hotel unit might bring in?  You’ll learn about all of that and more in this section.

 

Often times, potential purchasers of a condo hotel will use the possibility of cash flow as a means of determining whether the property is a smart buy.  The two key pieces of data required to make the proper calculations are average nightly hotel rate and average yearly occupancy rate.  These two figures must be obtained if one is to determine the amount of monthly income the property might bring in.  Fortunately, many condo hotel owners will provide prospective purchasers with this data when they are looking to resell their unit.

 

Unfortunately, it is often very difficult obtaining this information when it comes to pre-construction condo hotels.  Determining the average nightly rental and occupancy rates for a yet-to-be-built luxury hotel is much more complicated than doing a google search for a city’s average hotel occupancy and nightly rates.  The reason: the hotel figures that cities publish are all encompassing and will bundle in the nightly rate of the Motel 6 on the outskirts of town along with the Ritz Carlton.

 

You must compare apples to apples.  If you want to guestimate how a luxury 4 star condo hotel might perform in a specific market, you must assess the nightly rates and occupancy rates for other luxury 4 star hotels in the vicinity.

 

For example, if you were considering purchasing a pre-construction unit at the Hard Rock Hotel San Diego, and you used the hotel figures that the city of San Diego published, you’d be using incredibly inaccurate numbers.  The average nightly rate for a hotel in San Diego is stated to be around $144.  However, keep in mind that this number is a combination of all of the city’s hotels, including the lower end hotels and motels, such as the Motel 6 and the Vagabond Inn.

 

There’s no way you can stay at a 4 and 5 star hotel in San Diego for $144.  It’s just not reality.  To get an idea of how the Hard Rock Hotel San Diego might perform, you’d have to look at the average nightly rates for the Hyatt, W, Westin, and a few other boutique hotels in the close vicinity.  What you’d find is that the typical 4 and 5 star hotels in San Diego charge around $300 a night.  So, as you can clearly see, for the purpose of calculating projected income for a luxury hotel, using the city average is a ridiculous and totally meaningless figure to use.

 

The same philosophy applies to the use of occupancy rates in your calculations.  You can’t simply rely on a city’s average hotel occupancy rate.  You’ll face the same sort of distorted figures.  The Vagabond Inn on the outskirts of town will clearly have a lower occupancy than the Hilton located next to the city’s convention center.

 

Therefore, if you are going to try and project the potential cash flow that you might expect from a pre-construction condo hotel, be sure to look at comparable properties in the close vicinity as a source for reliable numbers to use in your computation.  Anything less than this sort of due diligence will result in faulty numbers.

 

 

Determining the costs of ownership

Typically, only three costs are associated with owning a condo hotel.  You have your monthly mortgage payment, you have your monthly HOA fees, and then you have your yearly property tax.  Generally, that is it.

 

For Example:

Monthly Mortgage:	$2500
Monthly HOA:	$500
Property Tax:	$333*
Total Monthly Costs:	($3,333)
*calculation based on averages.

 

• 1% property tax * $400,000 purchase price = $4,000 yearly property tax
• $4,000 yearly tax / 12 months = $333 a month in property tax

 

 

How do you figure out the monthly revenue for a condo hotel?

It’s fairly easy to determine the yearly and monthly revenue that is generated from a condo hotel.  All you need are three figures.  You need to know the average nightly rental rates for your condo hotel.  You need to know the average yearly occupancy rate for your condo hotel.  And lastly, you need to know the exact revenue split that an owner has with the rental management company. 

 

Just multiply the number of days a month that the hotel will be rented with the average nightly rental rate.  Then just multiply that figure with your rental revenue split.  This will give you the expected rental income for a given month. 

 

For Example:

Average Nightly Rental Rate:	$310
Monthly Occupancy Rate:	24 days *
Revenue Split with Rental Management:	42.5%
Total Monthly Costs:	($3,162)

 

•   80% yearly occupancy * 365 days = 292 days a year the hotel is rented out
•   292 days of occupancy a year / 12 months = 24.3 days a month the hotel suite is rented   out

 

 

How do you determine the monthly cost of ownership?

Simply subtract the monthly rental revenue that is generated from your monthly costs.  

 

For Example:

Monthly Costs:	($3,333)
Monthly Revenue:	+ 3,162
Total Monthly Costs:	($171)

 

 

 

Financing the Purchase of a Condo Hotel

You’ll find that the biggest financial institutions in the world make loans on condo hotels.  Most condo hotel developers have even made arrangements with specific lenders so that they may offer their clients the most favorable rates.  With each passing year, the process of obtaining financing becomes easier.

Financing a Condo Hotel

It may not be possible to finance a condo hotel at the same rate and terms available for conforming residential property. In general, the going rate is .5% to 1% higher than a traditional condominium. This is due to the risk based pricing associated with the property type, until a true secondary market is established. 

 

Additionally, condo hotel loans are not salable to Freddie Mac or Fannie Mae and this also is a factor for why condo hotels carry slightly higher rates and stricter loan qualification terms.

 

Why have Condo Hotel units been difficult to finance in the past?

The number of developments coming online has well outpaced the institutional lenders that have a desire to fund condo hotel purchases. These loans are considered "portfolio" in nature, and will in most cases be held and serviced by the lender who originated the loan, or a number of loans will be packaged together and sold to private investors. Since there is a lack of a true secondary market, many lenders do not actively seek to originate condo hotel paper.

 

It is particularly difficult to finance units less than 600 square feet that may or may not have a kitchen. This primarily affects the conversion market, as most of the units are true hotel rooms, and do not have the room for a kitchenette. The square footage number and kitchen requirement stems from the older "condominium" guidelines set by Fannie Mae, and many lenders have not updated their own guidelines to accurately reflect the unique characteristics of condo hotel properties. As a result, this is very much a niche loan product.

 

The Future of Financing a Condo Hotel

Although condo hotels have been around for nearly 3 decades, it’s only in the last decade that powerhouse institutions such as Ritz Carlton, Trump, Four Seasons, and Hard Rock have added true and lasting legitimacy to the product.  Now that these major players are involved and the concept of condo hotels is widely understood and accepted, most analysts are projecting the financing rates of condo hotels to come more inline with what is seen in conforming residential property.

 

Can a Condo Hotel be purchased under a corporation of LLC?

Some lenders allow it outright. And although other lenders may have restrictions, some will allow the unit to be closed upon by an individual and quitclaimed into the company or LLC name.  Ultimately, it depends on whom you choose to bank with.

 

Would you like to speak with a specialized lender?

Are you in need of financing for a condo hotel unit you’ve recently purchased?  Or are you considering the purchase of a condo hotel and you’d like to have a better understanding of the financial side?  If so, we’ll gladly put you in touch with the very best lenders specializing in condo hotels. Premium Condo Hotels has brokered relationships with the most highly reputable mortgage brokers in the condo hotel business.  We’re more than happy to put you in touch with the right people.

 

Contact us at info@premiumcondohotels.com or call 760-920-3982 for immediate help.  As always, all of our assistance is at no charge or obligation to you.  It is simply a service that we provide pro bono.

Continue to "Selling a Condo Hotel" »

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