Investing in real estate might sound intimidating and maybe out of reach, but in reality, there are so many avenues to real estate investing that even someone with only a little knowledge and frugal means can be a real estate investor. In fact, if you are a homeowner or are saving up to be one, you’re already contributing to a long-term investment that will build your capital.
In addition to being a homeowner, there are multiple ways to invest in real estate. Follow this guide to learn the basics of investing in real estate and how you can take part in this wealth-building enterprise.
How Does Real Estate Investing Work?
The simplest way to explain real estate investing is to define it as the purchase or sale of land and buildings to make a profit. There are 4 main categories of real estate that people invest in. If you’re thinking of investing in real estate, it’s important you understand these 4 categories so you can best determine the investment strategy that’s right for you.
Here are the different categories of real estate:
- Residential real estate: Refers to places where people live, such as houses, apartments, townhomes, duplexes, triplexes, condominiums, cooperatives (co-ops), and mobile homes.
- Commercial real estate (CRE): Refers to places used for business purposes, such as office spaces, retail storefronts and shopping centers, grocery stores, movie theaters, and gas stations.
- Industrial real estate: Also refers to places used for business but is treated as a separate category because of the specific way the property is used. This can include warehouses, storage units, distribution centers, research and development properties, and power plants.
- Land for future development or use: Refers to vacant or raw land that’s purchased for development and natural resources. This can include farms and ranches, lots in a subdivision, individual lots to build a home or business, orchards, and recreational land.
How to Get Into Real Estate
There are several ways to get into real estate and start investing. The first thing you’ll need to decide is whether you want to be an active or passive investor. The difference between the two lies in whether you take on the role of managing the property or hire others to do it for you. Someone who is an active investor might, for example, self-manage a rental property instead of hiring a property manager. In comparison, a passive investor might delegate the majority of the work involved in owning and managing a property to a team of professionals.
Once you’ve decided what type of investor you want to be, it’s time to explore your options when it comes to the ways you can invest in real estate. There are 6 main real estate investment strategies, each with respective pros and cons. Do your research to find out which type of real estate investing is the best fit for your goals and financial situation.
Real Estate Investment Strategies
Investing in a rental property means you buy a residential building or unit and rent it out to tenants. This would make you the landlord of the property, which comes with a ton of responsibilities. You’d be responsible for the upkeep, paying the mortgage, property taxes, repairs, finding tenants, and insurance — just to name a few. You could also hire a property manager to handle the day-to-day tasks, but that would be an added expense to consider.
As a landlord, you’d make money from the rent you collect from your tenants and from price appreciation if you sell the property for more than you paid for it.
- Can benefit from tax write-offs
- You gain monthly supplemental income from tenants
- Rising values on the market may also increase the value of your investment
- You could live on the property while renting out rooms or other units
- Money you earn from tenants can be used to pay down your mortgage
- You may have to deal with problematic tenants
- You’ll need to fill vacancies quickly, so they don’t negatively affect your income
- You won’t be able to instantly sell your property if you need quick cash
- You’re responsible for maintenance and repairs
- You’re responsible for paying the bills, such as the mortgage, taxes, insurance, and possibly utilities
If you are an HGTV fanatic, then the term “house flipping” will probably sound familiar to you. Flipping a house is when you buy a house to renovate and then resell it for a profit, or you buy a house, hold it, and then sell it at a profit. While it might look easy on TV, house flipping is often considered the riskiest form of real estate investing but also the most lucrative.
With house flipping, you run the risk of not being able to sell the property at a price that will turn you a worthwhile profit on your investment. In addition, things like budget increases and renovation mistakes can eat into your finances. It’s a good idea to enlist the help of seasoned professionals such as contractors, interior designers, and attorneys, but these will also cost you money to employ.
- Can be very profitable if done right
- Since these are often short-term projects that don’t require you to manage a property, you may see a fairly quick return
- Can take advantage of 1031 tax-free exchanges
- Selling could be difficult, and you’ll be on the hook for the mortgage if you can’t get tenants or buyers
- You’ll need to really know the market, or else you risk losing money
- Could be difficult to keep renovation costs low
- You’re responsible for renovations or hiring a team to do it
Real Estate Investment Trusts
Real estate investment trusts, or REITs, are companies that own and typically operate various real estate properties. Properties can include things like hospitals, office buildings, malls, hotels, apartment buildings, and even mortgages or loans. Investors purchase shares in real estate portfolios and contribute money to a pool, and professional managers decide how to invest it. If you don’t want to deal with the responsibilities of managing a property, investing in REITs might be the move for you.
One of the biggest appeals about REITs is that they’re required to pay out 90% of their profits to investors in the form of dividends each year. REITs are also fairly easy to invest in, and compared to other real estate investments, REITs are objectively affordable. You can typically expect to pay a minimum of $1,000 to $2,500 to invest, but sometimes it could be even less. One leading downside to keep in mind is that REITs are vulnerable to downturns in the market. So, if the market crashes, you could lose a good amount of money.
- Have the benefit of being highly liquid since they trade on the stock exchange
- Don’t have to deal with managing a rental property
- Offer high dividend payments
- You can often avoid paying corporate income tax
- May offer the opportunity for appreciation
- Offer portfolio diversification across many properties or across real estate sectors
- Easy to invest in and depending on the stock, it takes little money to get started
- Subject to market risk and stock fluctuations
- You’re taxed on dividend earnings
- Potential for high management and transaction fees
- Can maintain a lot of debt
- You’ll need to spend time researching and evaluating individual REITs to find the best one for you
Real Estate Investment Groups
Similar to REITs, a real estate investment group (REIG) is a company that buys or builds a set of properties and then sells off parts of that property to investors. REIGs often purchase apartment buildings, and investors buy one or multiple units within the building. The nice thing is investors don’t have to worry about managing the units, dealing with maintenance, or finding tenants; that responsibility falls solely on the company that operates the investment group. In exchange for this management, the company takes a percentage of the monthly rent.
- Easier to invest because resources are pooled
- Much of the work of investing in real estate can be spread out amongst members
- Don’t have to manage the properties
- Some groups provide learning and networking opportunities, such as guest speakers and conferences
- Some REIGs charge very high fees to join
- Disagreements among group members can hinder the success of the investment
- Will require you to do some digging in order to find a reputable group (some groups may engage in fraudulent activity)
Real Estate Limited Partnerships
Real estate limited partnerships (RELP) function similarly to REIGs. They provide investors with a diverse portfolio of real estate investments to buy, lease, develop, and sell. A general partner, usually an experienced property manager or real estate development firm, recruits investors to be limited partners in exchange for a share of ownership. Partners are considered “limited” because RELPs only exist for a finite amount of time, typically 7 to 12 years. RELPs are a private investment, meaning they aren’t traded on public stock exchanges like REITs.
- Partners may receive periodic distributions from income generated by the properties
- Can be very profitable when properties sell
- Don’t have to manage the properties
- Investment minimums can be very high; most minimums are $2,000 or above, and sometimes much more
- Will require trust and reliance on the general partner who manages the property
- Subject to income tax
Real Estate Mutual Funds
Real estate mutual funds are yet another way to diversify your portfolio and invest in a basket of real estate assets. Arguably the simplest way to invest in real estate, mutual funds take the guesswork out of deciding what to invest in. A professional portfolio manager will choose the best real estate investments for you using expert research. Real estate mutual funds invest primarily in REITs, which, depending on strategy and goals, typically provide investors with a much larger asset selection than can be achieved through buying individual REITs.
- Funds are pretty liquid
- Opportunity to diversify your exposure to real estate with a relatively small amount of money
- Don’t have to manage your portfolio or do much research
- There are expense ratios, which are ongoing fees you’ll need to pay to own the mutual fund
- Rising interest rates can affect the returns of mutual funds
- You’ll have no say in what companies are invested in or how they are run
- There are no tax benefits
How to Invest in Real Estate With Little Money
While investing in real estate can be lucrative in the long run, getting started often takes time and a significant amount of money. That being said, there are ways to break into the real estate game without breaking the bank. As previously mentioned above, REITs, REIGs, and RELPs are all great ways to start investing with fairly little money. Here are some other ways you may be able to finance your investments if you don’t have a ton of funds.
- Try crowdfunding — Real estate crowdfunding platforms pool smaller amounts of money from a large group of investors to put toward properties. This gives you the opportunity to invest capital in large real estate projects that won’t cost you a fortune. Some platforms, such as Fundrise, offer minimums as low as $10. But not all real estate crowdfunding platforms are available to everyone. Some are reserved for accredited investors with high net worths, so shop around to find one that’s right for you.
- Take out a loan — There are a variety of loans available to those interested in investing in real estate. Some loan options available to you may include a hard money loan, conventional bank loan, private money loans, and home equity loans. No matter which type of loan you plan to take out, make sure to do your research, figure out if you can pay back the loan, and see if you meet the specific requirements.
Is Real Estate a Good Investment?
As with any type of high-stakes investment, there are risks involved. Real estate can be a very volatile market, and depending on the property, and how much work it needs, you may end up losing more money than you make. But despite the risks and headaches that may come with investing in real estate, it can still be a sound investment with the potential for high returns.
Consider some of the following reasons to invest in real estate:
- Real estate tends to increase in value
- Can generate a steady stream of income for investors
- It’s a good way to diversify your investment portfolio
- Investing in real estate often comes with tax benefits
- Could be a great way to start building wealth
Ultimately, you’ll have to decide if investing in real estate is the right move for you. Examine your needs and wants to determine if real estate investing will help you reach your financial goals.
How do I invest in real estate without buying property?
There are multiple ways to invest in real estate without actually needing to purchase property. Some of the methods described above include real estate investment trusts, real estate investment groups, real estate limited partnerships, real estate mutual funds, and crowdfunding. Each of these allows you to put your money into various real estate investments without needing to own or manage a property.
How much is the down payment for an investment property?
Typically the down payment for buying rental property ranges from 15% to 25%.
Investing in real estate is a long-term investment that will require you to weigh all your options in order to choose the right strategy for you and your financial situation. Luckily, there are a variety of strategies available for all kinds of budgets. To be successful in the real estate market will require determination, research, and good money management skills. Consider opening a savings account specifically for the purpose of funding your investment ventures. That way you’ll have a stash you can dip into when it comes to maintenance requests, hiring a property manager, or purchasing shares of real estate.