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What Is A Rental Arbitrage? A Guide For Landlords

In recent years, aspiring real estate entrepreneurs have been entering the industry through rental arbitrage. With rental arbitrage, tenants rent from your property in the long-term and sublet it to short-term renters through Airbnb, VRBO, and other platforms. 

This sounds simple enough, right? But in reality, it’s not quite as harmless as it sounds. Let’s break down the process, as well as its potential legal and financial risks.

Close up hand of someone handing home keys to someone else.What Is Rental Arbitrage?

Rental arbitrage is a business approach where individuals get long-term rental leases and then sublet the rental to others for short-term intervals. Our property management company in Baltimore have observed that tenants often do this because it’s so effortless. It lets them generate rental income without owning the property. Effectively, tenants profit from rental arbitrage by charging subletters more for the rental than what the tenant paid for it originally.

How Does Rental Arbitrage Work?

Let’s take a look at how rental arbitration works. The process involves:

  1. Securing a Lease Agreement: As we stated before, tenants start the rental arbitration process by signing a long-term lease. Then, they get their landlord’s permission to sublet it to others.
  2. Preparing the Property: At this point, the tenant prepares the rental for subletting. For instance, if they plan to list it on Airbnb, they’ll need to furnish the space with things like Wi-Fi, modern appliances, and comfortable furniture. Then, they likely will take photos and/or videos of the rental.
  3. Listing on Short-Term Rental Platforms: Now that the rental is ready, the tenant will usually list it on platforms like Airbnb, VRBO, and Booking.com.
  4. Managing Bookings and Operations: Here, the tenant will become a landlord of sorts: they’ll handle bookings, talking to guests, setting up cleaning services, ensuring the rental stays habitable, and collecting rent.

Is Rental Arbitrage Legal?

Yes, rental arbitrage can be legal, depending on your lease agreement terms and local regulations. In many states, you have the right to prohibit tenants from subletting without your consent or from doing it, period. Note, however, that some state laws require you have a legally justified reason for forbidding it.

Risks & Challenges of Rental Arbitrage

Rental arbitrage might seem like an innovative business model for tenants, but it comes with its fair share of risks for landlords. Let’s take a closer look at those legal and financial challenges and how they can take steps to protect themselves.

Legal Considerations

One of the biggest risks of rental arbitration for landlords is legal trouble. The tenant could break your lease terms (and the law!) if their subletter misbehaves. After all, you can’t choose the subletter. You can’t screen them. So, the subletter could be disruptive towards other tenants or the property. At worst, they could even be violent. 

Moreover, if the tenant lists your rental on short-term rental platforms, it could result in:

  • Regulatory Violations: Many jurisdictions have strict rules governing short-term rentals, and landlords may be held accountable if the tenants don’t comply.
  • Insurance Issues: Traditional landlord insurance often doesn’t cover short-term rental activities. Landlords should look into special insurance policies, such as short-term rental insurance, to ensure they are covered for any subletting-related damages.
  • Reputation Risks: Unruly tenants may not just impact your other tenants and your property (which is bad enough). Additionally, they could hurt you and your property’s reputation in your neighborhood.

Filing folders with word UNPAIDFinancial Risks for Landlords

If left unchecked, rental arbitrage can pose financial risks for you as a landlord, like:

  • Property Wear and Tear: Short-term rentals tend to have more people coming in and out of your rental. In turn, this can lead to quicker deterioration of furniture, fixtures, and overall property condition.
  • Unpaid Rent: Let’s say a tenant is subletting because they can’t afford their rent. If they struggle to make enough income from your rental to cover their existing financial troubles, they may end up defaulting on their rent payments. 
  • Loss of Control: Rental arbitrage puts your property in unscreened subletters’ hands. This leaves in the dark about who’s occupying your space and how it’s being used. 

How to Prevent Tenants from Doing Rental Arbitrage

Now that you understand the risks of rental arbitrage, you can take proactive steps to stop it in its tracks. This can help you stay financially secure, protect your property, and avoid legal issues. Here are some steps to consider:

  • Include a clear subletting clause: If your local laws permit it, ensure your lease agreements clearly state that rental arbitrage is prohibited without written consent (or at all). Additionally, specify the consequences of violating this clause, e.g., termination of the lease.
  • Periodic Property Inspections: Conduct occasional checks to confirm your tenant is using property the property in line with the lease terms.
  • Open Communication: Build a trusting relationship with your tenants so it’s easier to address concerns and set clear expectations.
  • Monitor Online ListingsYou can monitor tenants’ subletting activities by regularly checking online platforms such as Airbnb, VRBO, and Booking.com for listings. Furthermore, using Google Alerts with specific property keywords can also help notify you when your property appears on such platforms. 

A red flag flying in the windRental Arbitrage: What Landlords Need to Know

While tenants may benefit from rental arbitrage, it’s a clear danger zone for landlords. It can bring you legal liability, lost rent, damaged property, and unhappy neighbors. Luckily, in many states, you can take steps to stop tenants from going through the process. 

If you want to be extra sure your rental is secure, it would be wise to partner with a professional property management company. Our team at Bay Property Management Group specializes in closely monitoring properties, creating airtight lease agreements, and generally safeguarding landlords’ investments on their behalf. Contact us today to learn how we can help protect your property and profits.