What is Hotel Room Investment?

Business Insight

More and more investors are seeing hotel room investment as a way of expanding their portfolio, generating high stable returns, and not needing to expel huge amounts of energy for those returns. With UK tourism at record levels, and growing, now is the time for investors to capitalize on this strong performing market offering high, sustainable, yields and capital growth.

How Does It Work?

Although it appears a relatively new concept, Hotel Room investment has been around a number of years, and has been used by many of the major hotel chains as a way to finance and purchase new hotels.

Essentially how it works is that an investor purchases a room within a hotel on a leasehold basis (usually 125 years), in the same way that you would purchase an apartment within a block of apartments.

How Do Investors Get Paid?

After purchase, Investors then have a rental agreement (usually known as a sub-lease) with the hotel operating company. It is standard practice that the owner of the freehold (sometimes known as the developer) is a different entity to the operating company to ring fence the activities of that hotel.

As part of the rental agreement, the operator agrees to pay a fixed rent to the owner of the room in return for the privilege of being able to use the room to house hotel guests. The rent is paid regardless of occupancy. So if the room is empty, the investor still gets paid, equally if the room is fully occupied all year round the income remains the same for the investor.

Usually this rental agreement is for a fixed period of time, after which it can be renewed on new terms, or the investor can exit out of the investment through the way of a buy-back.

Exiting The Investment

The buy-back is usually structured as an option agreement – both for the investor and the developer, giving both parties to exit and trigger the buy back with a period of notice (usually 1-2 years) at a pre-agreed uplift on the initial purchase price. Some developers offer buy backs at Year 5 or 10, with an uplift anywhere from 1.5-2.5% per year on the initial price.

The way the developer is able to buy back the rooms is either through a direct purchase from funds they have generated from the rooms they have retained themselves within the hotel, or if they were to trigger all the buy-backs, they could look to refinance the hotel with a bank now that they have completed their renovation works, and added sufficient value to the hotel, or thirdly they could sell the hotel to another group, triggering all of the buy-backs.

Personal Usage

One of the added bonuses of hotel accommodation is that you often get the option to use your room for one or two weeks per year free of charge, or you can gift it to friends or family.

Unfortunately anything more than this would be charged (at a preferential rate). The reason operators cap their free usage allowance is because they need to generate revenue from the rooms in order to pay the returns. If they offered unlimited usage they could end up with a fully occupied hotel with no paying guests.

What Does It Cost?

Hotel investment can vary in price from £50,000 - £250,000 depending on which are of the country you are looking. London hotel rooms are generally upto £300,000 and offer yields around 5%. If you looked outside of London you can achieve higher returns and lower investment requirements, and as the property is being purchased for an investment, 99.9% of investors opt for the lower cost, higher returning asset.

The only other costs to factor in are legal fees (usually about £1,000) and if the property is over £150,000 you would be required to pay a very small amount of stamp duty.

Why Do Developers Use Investor Funds Instead of a Bank?

The answer is quite a straight-forward one. With bank finance, a borrower is usually required to start paying the interest within one month of borrowing the money.

When a hotel is being purchased and/or renovated, it takes a while for the hotel to reach maturity in terms of occupancy rates and income, therefore it makes more sense for a developer to pay a higher annual interest payment to investors and having maybe 12-24 months before having to start paying out returns, rather than paying a lower interest payment, but being under pressure from day one to meet those payments.

It also gives the operating company an element of freedom to get on with what they do best – running a hotel, rather than spending their time doing reports for the banks, and being restricted by various red tape.

In addition, it creates a nice story and buzz around the hotel. When you have 50-100 investors connected to that hotel, it inevitably creates a small buzz, which is essentially free marketing!

What If The Developer Goes Bust?

The reason for any company going bust is due to a large number of creditors forcing the company into liquidation. With this hotel investment model, by using investor funds for the purchase and renovation of the hotel, the majority of the time the only creditors are the investors themselves, so no third party is able to come in and force the company into liquidation.

Is it better than Student or Residential Buy-To-Let?

It’s hard to say any one asset class is better than another as it depends on what the individual investors strategy is.

Hotel room investment, similar to student accommodation is a cash only investment, with no financing options available, so it is suited to cash rich investors looking for high returns and an entirely hands-off way of investing.

It is very similar to student accommodation, however hotel investment has the contractual buy-back agreement in place, giving investors a cleaner, clearer exit rather than having to resell to another investor, which you can still of course do with hotel room investment should you wish.

It’s also worth noting that there are no ongoing charges such as maintenance, or service charges with hotel investment. Some hotel rooms attract a very small ground rent, which is deducted from the returns automatically before they are paid to the investors.

For further information please contact Thirlmere Deacon on: +44 [0] 203 950 7939 or visit https://tdpropertyinvestment.com