How To Start Investing In Real Estate
Asking How do I start investing in real estate? is akin to asking yourself How should I live my life? There are thousands, if not millions, of answers, and they depend very much on you, your skills, your stage in life and what youre looking to accomplish. Depending on what you want out of the experience, there are a few different ways to get started investing in real estate.
Flipping A House Or Condo
Want to get some work done? Lets take a look at how to invest 100k in real estate through flipping a home.
This form of investing is certainly not passive income. But its a great path toward financial independence.
Flipping a house or condo is best done for people who are confident in their ability to manage a large-scale project.
You dont need to be a handyman. But you do need to know the basics of renovating a property.
Many people make quite a lot of money flipping houses or condos.
But be careful. Check with financial experts so you can avoid issues such as paying too much capital gains tax.
Flipping is hard work. And you may not always make money. There will always be projects that go over budget and run out of time.
The advantage is that each project is a discrete project. Once youre done, youre done. Theres no lingering like with rental properties.
At the same time, every time you sell the property you experience a capital gain. You can shove the money into your Roth IRA, but there are limitations.
Comparatively, if you just buy a property and hold it, you arent going to need to pay capital gains taxes until you sell it.
House flipping can lead to disaster for those who arent knowledgeable about houses. You need to know everything about houses, including how well properties sell in the real estate market and how to tell whether an HVAC system needs to be replaced.
For others, it can become a very lucrative side business.
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 youre thinking of investing in real estate, its important you understand these 4 categories so you can best determine the investment strategy thats 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 , and mobile homes.
- Commercial real estate : 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 thats 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.
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Should You Buy Or Finance
Is it better to buy with cash or to finance your investment property? That depends on your investing goals. Paying cash can help generate positive monthly cash flow. Take a rental property that costs $100,000 to buy. With rental income, taxes, depreciation, and income tax, the cash buyer could see $9,500 in annual earningsor a 9.5% annual return on the $100,000 investment.
On the other hand, financing can get you a greater return. For example, say an investor puts down 20% on a house, with compounding at 4% on the mortgage. After taking out operating expenses and additional interest, the earnings add up to roughly $5,580 per year. Cash flow is lower for the investor, but a 27.9% annual return on the $20,000 investment is much higher than the 9.5% earned by the cash buyer.
Buying A Residential Property Or A Second Home
A lot of people dont realize that their home is an investment. In fact, its usually the first investment you should make.
Put $100,000 down on a $500,000 home today, and in 30 years when youre ready to retire, it will be fully paid off. It may have appreciated in value over that time to a $1,000,000 home.
Putting money into your residential property is a great idea. It increases in value. It saves you rent money. And it gives you a place to live rent and mortgage-free in your twilight years.
A second home is similar. You can sell it later. You can rent it for passive income. And you can take loans against it.
Many investors are of the opinion that you should put as much as you can afford into your home. Your home will eventually pay off for you as a source of equity.
Of course, that also assumes rates are low. If you can get a three percent or lower mortgage rate, you have very little reason not to treat your home mortgage as an investment property.
You just shouldnt exceed a reasonable amount of cash flow. And when looking at your residential property as a type of property investment, consider its future value. Is it in a desirable area? Is it going to go up quickly or slowly? How hard will it be to sell?
The common pitfall when buying a residential property is purchasing more house than you can afford. So take the time to sit down and look at your books. You want to maintain good cash flow for future investments.
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Consider Real Estate Croudfunding
Alternatively, real estate crowdfunding might be an option, says Deidre Woollard from Millionacres. Todays young investors have an advantage that I didnt have when I was first learning real estate, they can actively participate in crowdfunded projects as a Regulation A investor. They can see first-hand what happens when a property is purchased and learn the cycle of buying, improving, and holding. This will also teach patience because these are long-term holds.
The hidden benefit of trying these methods first is you learn the lessons without making your own mistakes. That way when you go into direct ownership you will be less emotional and understand the process more fully. When you purchase your first property a duplex can be a great place to start because it will teach you landlording at close range adds Wollard.
Related read: Quadplex: Real Estate Investings Best Kept Secret?
Purchase A Rental Property And Become A Landlord
If youre ready to step up to the next level, you might try your hand with a residential rental property such as a single-family home or a duplex. One of the bigger advantages of this kind of property is that you know the standards of the marketplace and the market may be easier to gauge, as opposed to commercial properties, such as a shopping center.
Another advantage is that it may take a lower investment to get started, for example, with a single-family house. You may be able to get into a property with $20,000 or $30,000 instead of the potentially hundreds of thousands required for a commercial property. You may be able to buy it even cheaper if youre able to find an attractive distressed property via a foreclosure.
Youll generally have to put up a sizable down payment to start, often as much as 30 percent of the purchase price. So that may be prohibitive if youre just starting out and dont have a huge bankroll yet. One way around this may be to buy a rental property in which you also live.
Another downside is that youll need to manage the property and make decisions as to what needs upgrading, for example. While owning property is considered a passive activity for tax purposes, it may end up being anything but passive as a landlord. And if a tenant ducks out on rent, you still have to come up with the monthly payments, lest you go into default on the loan.
How you make money: Capital appreciation, growing rents and equity over time, 1031 tax-free exchanges
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How Does The Process Work
After selecting the type of property you would like to invest in, you will choose a Self Directed IRA model. The two most popular models are the Custodian model and the Checkbook IRA.
With the Custodian model, the IRA owns the property and the Custodian processes all the transactions. This works great for low transaction investments like a private placement or a REIT.
With a Checkbook IRA, the account holder creates a specialized LLC of which they are the manager. This LLC functions as the business vehicle for the IRA. The account holder can now purchase the property, write checks to pay expenses, and deposit rental income without having to contact the Custodian. A Checkbook IRA is best for high transaction investments like active rentals.
Is Real Estate A Good Place To Invest
Does investing in real estate make sense for you? Youll need to ask yourself what kind of investor youre willing to be. You can make a lot of money in each kind of real estate investment, so its more a question of your financial position and your willingness to do whats necessary. The type of investment should match your temperament and skills, if at all possible.
In particular, potential investors should ask themselves questions across three broad areas:
- Financial resources: Do you have the resources to invest in a given real estate investment? There are opportunities at every investment level. Do you have the resources to pay a mortgage if a tenant cant? How much do you depend on your day job to keep the investment going?
- Willingness: Do you have the desire to act as a landlord? Are you willing to work with tenants and understand the rental laws in your area? Or would you prefer to analyze deals or investments such as REITs or those on an online platform? Do you want to meet the demands of running a house-flipping business?
- Knowledge and skills: While many investors can learn on the job, do you have special skills that make you better-suited to one type of investment than another? Can you analyze stocks and construct an attractive portfolio? Can you repair your rental property or fix a flipper and save a bundle on paying professionals?
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Alternatives To Real Estate Investing
Real estate investing is just one option if you want to build wealth. Securities like stocks and bonds offer a much more liquid place to stash and grow your money and dont tend to rise or fall with the housing market. And dont worry: You no longer have to be an expert at understanding p/e ratios or spend time pouring over annual financial statements. Automated investing takes out all the hassle and the guesswork.
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Ner With Existing Real Estate Investors
Working for smart and accomplished individuals is never a bad thing. In the real estate investing world, a good strategy to learn the art is to find someone who has done what youre looking to do and work for them.
You can offer value to this person by sourcing deals of your own and bringing them to the investor, often referred to as bird dogging.
Real estate wholesaling is another option, where you partner with an investor such as a rehabber or flipper who will buy the property and handle the renovations and selling process. The finders fee can be up to five figures for wholesalers, so with the right mentor, this can be a great way to learn the field, while making good money.
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Invest In Properties Via Real Estate Crowdfunding
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 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 provides is that you can invest in specific properties and exclusive deals with very little money.
While online crowdfunding platforms make investing super easy, many platforms require investors to be accredited . And for a 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.
How To Invest In Real Estate: Mistakes To Avoid
Many famous quotes indicate that real success is built upon learning from past mistakes or failures. For example, the author J.K. Rowling once said, Rock bottom became the solid foundation on which I rebuilt my life. However, this does not mean that you should not learn from others past mistakes. The following provides insight into common first-time investor mistakes to avoid at all costs:
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Real Estate Vs Stocks: Which Is The Better Investment
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To grow your wealth, which is the better strategy: Investing in real estate or building a portfolio of stocks?
Many Americans do a bit of both: 65% of U.S. households are owner-occupied, according to the U.S. Census Bureau, and the Bureau of Labor Statistics says 55% of American workers participate in an employer retirement plan. If youre among them, you likely have some exposure to the stock market.
But if youre looking to double-down on either type of investment or youre new to investing and trying to pick between the two its wise to know the advantages and disadvantages of each strategy.
Its also important to know that you dont have to choose. You can purchase shares in real estate investments without the headaches of actually buying, managing and selling properties.
Buying An Investment Property
An investment property is a singlefamily or multifamily home that you rent out full time and do not live in yourself. These types of properties can generate an impressive income over time, especially if you own more than one. But it tends not to be easy at the start. Your mortgage costs are likely to be high, as will maintenance costs unless you do most chores yourself.
If youre not willing or able to maintain your investment homes yourself, its a good idea to get quotes from local property managers or line up your direct labor before you commit to a purchase.
Another challenge is that there can often be gaps between tenants. And that means a lapse in rental income.
Indeed, when your mortgage lender runs the numbers, it will typically assume that your vacancy rate will be 25%. That means youll need a significant income or savings buffer to ensure you can cover mortgage payments even if you have vacancies.
In terms of financing, buying an investment property is a little tougher than buying a primary home. Youll need to meet higher standards for credit, down payment, and cash flow.
That said, your future rental income can actually help you qualify for the loan. Lenders can use 75 percent of the future rents as qualifying based on current leases and/or an appraised rent schedule, explains Meyer.
Provided you can afford the upfront cost, investment properties can be an excellent way to generate substantial, longterm income.
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Tips For Getting The Best Real Estate Deal Possible
Undervalued properties are also a good investment, as they offer the potential for greater profits when reselling. Look for properties that will give you a return on investment of at least 12%, as anything less may not be worth your time.
1. Look for undervalued properties: Some homes and condos come on the market and simply stay there, price unchanged or reduced. These can be great opportunities if youre willing to wait it out. Others may need a little more of a push. Take a look at recent sales of nearby homes and see if theres been an increase in price since then. If so, youve got yourself a deal!
2. Tread carefully with for-sale-by-owner properties: There are a lot of advantages to buying a home without a real estate agent being involved, but there can be drawbacks as well. You could find yourself in a bidding war or discover that the property isnt what you expected it to be. Make sure you know what youre getting into before entering negotiations with an FSBO.
3. Ask your real estate agent or attorney: If you feel unsure about a deal or have a gut feeling something in the proposed terms arent square, bring it to the attention of your attorney or real estate agent. They are there to aid, guide, and protect you!
Remember, it is perfectly acceptable to use this time to learn how to invest in real estate. Everyone starts somewhere, and your team will help you!