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Real Estate Investing in 2019 for Beginners. No investment can guarantee either protection of your principal or a profit. But historically, real estate has been one of the safest and most lucrative asset classes for investors. It typically provides built-in appreciation that keeps pace with inflation while also offering the potential for significant gains.
However, for the beginner, real estate investing can seem like a confusing challenge. So we’ve created this handy guide for complete newbies. With it, you’ll understand the jargon. And you’ll be able to choose a strategy and get started with this potentially lucrative investment today.
In a broad sense, investing in real estate in 2019 means purchasing, leasing or acquiring usage rights to a piece of real property. But there are many ways to do this.
Real estate investing can be as simple as owning shares of a mutual fund that invests in real estate or as involved as outright buying and flipping properties for profit.
It’s important to know the difference between real estate and real property. These two terms are often mistakenly used interchangeably, even by industry professionals.
“Real estate” refers to a specific tract of land and all improvements (anything permanently attached to the land, such as a building). “Real property” is defined as the interests, benefits, and rights inherent in the ownership of real estate.
So real estate investing can mean purchasing a parcel of land and leasing the mineral rights. And it can also refer to owning and renting residential housing.
One of the biggest differences among real estate investment strategies is where they fall on the continuum between passive and active.
Investing a few hundred dollars to buy shares of a mutual fund is passive.
Buying a property, improving it and reselling it for a profit is active.
And then there’s everything in between! Generally, the more “active” the investment, the more knowledge and experience it takes to be successful, the higher the initial investment required and the higher the profit potential.
Here’s a look at where the most popular real estate investment choices lie on the passive/active continuum:
Passive Investing | » | Active Investing |
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Mutual Funds » REITs » Crowdfunding » RELPs » Real Estate Investing Groups » Rental Properties » House Flipping
Real estate mutual funds are a popular way to add real estate diversification to your portfolio without actually owning property or understanding much about buying, selling and managing specific properties. Your investment is pooled together with others, and you’re issued shares of the fund. All purchases, activities, and disbursements are overseen by a fund manager. Analytical and research information is done by professionals. You simply buy and sell shares much like you would any other mutual fund on the stock market exchanges.
A REIT (Real Estate Investment Trust) is a corporation (actually a trust) that are formed to use investors’ money to acquire, manage and sell income-producing properties such as shopping malls, commercial buildings, and health-care facilities. REITs are required by law to distribute 90% of its taxable profits annually to shareholders. This comes in the form of dividends, often quarterly. Like investing in a real estate mutual fund, your REIT investment is professionally managed, SEC-regulated and highly liquid. (Shares can be bought and sold on the major stock exchanges.) REIT and real estate mutual funds are the most passive ways to invest in real estate.
Crowdfunding Real Estate investing can be very passive as well. But the due diligence you should do is more involved than simply buying shares of a mutual fund or REIT. Crowdfunding platforms provide an online marketplace for investing in a variety of real estate opportunities. There are hundreds of real estate crowdfunding platforms to choose from. You can invest in everything from high-quality real estate loans to single-family homes via crowdfunding.
Crowdfunding sites allow individual investors entry into bigger deals (both residential and commercial) that were previously available only to those with substantial amounts of money to invest. Like investing in mutual funds or REITs, many crowdfunding deals offer very affordable minimum investments. The biggest advantage crowdfunding offers is that you can invest in specific properties and individual deals with very little money.
While online crowdfunding platforms make investing super easy, many platforms require investors to be “accredited” (an individual with an annual earned income exceeding $200,000 and a net worth greater than $1 million excluding the person’s primary residence). And for good reason. You are responsible for doing thorough due diligence. So, you must analyze the documents provided. You also need to find and study any relevant information not provided. And don’t forget to research the crowdfunding management personnel and policies.
Real Estate Limited Partnerships (RELPs) are another way to invest passively. Because some real estate investments require a large amount of money — building a shopping mall, for example — partnerships are a common way to raise the funds needed. A RELP is an entity formed to develop or purchase and hold a portfolio of properties, typically for a finite number of years. Experienced property managers or real estate development firms run these. And outside investors provide financing for the real estate project as limited partners.
As a limited partner, you would receive periodic distributions from income generated by the RELP. And you’d receive a more substantial payoff when the properties are sold and the RELP is dissolved. While being a limited partner is a passive activity, your investment is typically very illiquid. RELPs are typically private investments and not sold on the stock market exchanges. Nor do RELPs widely promote their available deals. Due diligence is critical.
Real Estate Investment Groups are sort of like small mutual funds for rental properties. A company will buy or build a number of apartments and then allow investors to buy them through the company. As a single investor, you can own one or multiple units. The company operating the investment group collectively manages all the units. It takes care of maintenance and operations in exchange for a percentage of the monthly rent. This is passive in that investors don’t worry about placing tenants or managing their units. But you must do your due diligence before investing. This includes verifying all fees, services and tenant screening processes, as well as the integrity and experience of the group’s managers.
Let’s say you want to take a more active approach.
Owning rental property is where many investors who want to be a more hands-on start. The approach is to acquire and manage residential property for a profit. The most important considerations are the property location and market rental rates. You want to choose a location where market appreciation is likely. And you want to make sure you can charge enough rent to make a profit after covering all your expenses. Expenses include mortgage, interest, maintenance, HOA or condo fees, property taxes, insurance, vacancy, utilities, and other direct and indirect expenses.
Rental property investors typically look for properties that hit the “one percent rule.” This means that the monthly rent covers 1% of the acquisition price plus rehab costs. So, if your all-in cost to get the property “rent-ready” is $150,000, your monthly rent should be at least $1,500. Of course, this is a generality. In many locations, the numbers work out differently, based on a lot of factors that need to be carefully considered.
Buying a rental property requires a more sizable investment. You’ll need 20% of the purchase price as a down payment. And you’ll want to be sure you have the know-how and time to do it successfully. Even if you intend to hire a real estate agent to find the property and a property manager to run the month to month activities, there is still a lot to know before jumping in and purchasing a rental property.
At the far end of the Passive/Active real estate investing continuum is fixing and flipping properties. Made popular by the HGTV reality shows, flipping has sparked a lot of appeal from would-be “do it yourself” investors. You buy a property that’s undervalued, most often because it is in poor condition. You then repair and improve it and sell it for a profit a few months later. To be successful at flipping, you need a broad skill set, experience, and access to substantial money. You need to find and acquire properties below market value, manage a successful, swift and cost-efficient rehab and resell quickly.
The transaction costs are high on both sides of the table. First, you have fees both when you buy the distressed property and when you sell the improved property. Then there are transfer taxes, title research and insurance, closing costs and agent commissions. You’re transferring title of ownership twice in a short amount of time, but there are no price breaks. The county and state tax the transfer on both transactions. Title insurance has to be purchased both times. All costs, including acquisition, rehab and transactional costs, need to be carefully estimated and factored into the initial property price.
Flipping is the riskiest real estate investing strategy. One oversight, such as a structural issue, could wipe out your profits and then some. Fix-and-flips also offer the potential to make a large profit fairly quickly. But flipping isn’t for beginners or those looking for a smaller initial investment. To get the best deals, flippers need access to large sums of cash to purchase a distressed property outright, ample funds to do the rehab, and enough cash flow in their business to hold the property until it’s sold.
If you’re considering real estate investing, the first step is to choose a general area where you feel comfortable. You must designate the appropriate amount of time and effort to learning what you need to know to ensure success. If you have a minimum amount of time and effort available, you’ll want to start with one of the more passive approaches.
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