Real estate investing can be a great way to boost your portfolio and quickly get you to financial independence. The barrier to entry feels high, and that scares off many would-be investors.
If this is you, don’t worry. We’ll systematically walk you through the necessary steps for getting started in real estate investing.
What Is Real Estate Investing?
Real estate investing is using land or the buildings on it to make money. There are several ways to approach it including residential or commercial properties, REITs, and crowdfunding platforms.
A lot of people think being a real estate investor means you have to be a landlord and deal with tenants and fixing a leaky toilet at 3 am. Some people imagine being a real estate investor means you have the money to fund huge developments personally.
While both of those are types of real estate investments, it doesn’t have to be anything nearly that extreme. Depending on what type of real estate investor you want to be, you might not need any money at all.
To give you a full picture of real estate investing we’re going to answer these questions:
- What are the real estate investment types?
- How can I make money in real estate?
- How do I get started?
What Are the Types of Real Estate Investments?
So to start, let’s talk about the different types of real estate investments, so you have an idea of your options.
There are four basic types of real estate investments: Residential, Commercial, Industrial, and Land.
Our focus will be on residential and commercial real estate since those are the most common categories for beginning investors.
Residential Real Estate
Residential real estate is what most people are familiar with. It’s where you invest in a residence.
Purchasing a single or multifamily home, and renting it out is the most common form of residential real estate investing.
Residential real estate uses a person’s residence; hence the name, but not all homes are considered residential real estate.
Commercial Real Estate
Commercial Real Estate is businesses or apartments with more than four units. If you want to invest in a restaurant, for instance, that would be considered commercial real estate.
Whether an apartment complex has fifty units or four units, it’s all considered Commercial Real Estate. If it has three units or less, it’s categorized as residential real estate.
It’s easier to get into residential real estate as there are more tax regulations and city codes to worry about in commercial real estate.
Industrial Real Estate
Industrial Real Estate is like commercial real estate on steroids. It’s where you invest in power plants, warehouses, or any large scale factory.
If you’re a beginning investor, this probably isn’t the path to go down as the purchase price is typically extraordinarily high, and it’s a lot more complicated than either residential or commercial real estate.
Land Real Estate
Investing in land is one of the easiest ways to get into real estate investing. It’s also typically the least lucrative.
Land real estate is where you purchase undeveloped land and either rent it out or hold on to it and wait for it to appreciate.
Residential vs Commercial Real Estate
It’s easiest to concentrate on residential real estate, which includes single-family homes and multifamily homes up to three units.
Focus your efforts on learning all you can about one type of real estate before you branch out.Tweet This
Once you know the rules and various codes that go with residential real estate, you can dip into the waters of commercial real estate. If you have a lot of capital, then you could consider jumping straight into commercial properties, but the learning curve is steeper.
Whichever one you choose, I highly recommend becoming competent in one before attempting to try the other. Usually, people start with residential real estate because it’s easier and requires less funding.
How Do You Make Money in Real Estate Investing?
So now that we’re here, how does investing in real estate make you money? There are three main ways to make money in real estate.
- Collecting Rent
- Selling it for more than you bought it (also called appreciation)
- Collecting interest from loans
|Investment Type||Make Money Through||Risk Level|
|Appreciation||Equity||Increased Property Value||High|
|Rent||Equity||Income||Moderate - High|
The most common way to earn money through real estate is by collecting rent. You own property, and someone pays you money to borrow it. Pretty standard.
For this to be a good investment, you’d need to rent it out for more than your mortgage payment plus any needed repairs.
A good rule of thumb is to buy a property that you can earn 1% of the purchase price through rent each month.
So, if you bought a $100,000 townhouse, you’d want to be able to rent it out for at least $1,000 each month. It’s not always possible, but it gives you an idea of what to aim for. It’s commonly known as the 1% rule.
The 1% Rule says your monthly rent must be at least one percent of the purchase price to turn a decent profit.
Flippers vs. Buy and Hold
Another common way people make money in real estate is by looking for deals and turning around and selling those deals for a profit.
If you’re explicitly buying so that you can turn around and make a quick profit it’s called being a flipper.
Flippers are looking to buy it, fix it up, and sell it as quickly as possible. They’re generally not concerned about renting the properties out. Many people opt to go this route because they can buy a house, fix it up, and sell it for a profit.
It’s a pretty hands-on way to make money in real estate, but it also gives you some of the highest rates of return. There are countless shows on HGTV showing people doing this exact thing.
The benefit of buying a property that needs a lot of work is it’s typically much less expensive than a move-in ready building.
If you can do this work yourself, or contract it out for a low enough price, you can quickly earn a higher rate of return.
Some people aren’t interested in flipping houses and instead buy and hold. They’re banking on the housing market going up, which would allow them to sell for a profit down the road.
While this is a common tactic, it’s more like speculation and less like straight real estate investing. It also usually takes a lot of time for the housing market to increase enough to be worth your time.
Buying a house simply to resell it in a few years is not a great idea unless you can rent it out in the meantime and have the patience to hold onto it until the market is right.
Collect Interest on Loans
A third way to make money through real estate investing is by earning interest on loans. In this situation, you invest your money, and a real estate developer takes care of the nuts and bolts of the operation.
You typically don’t earn as high of a return doing this as you would by being more hands-on, but it’s a lot less time-consuming.
For instance, let’s say a real estate developer wants to purchase a multifamily home for $300,000. In this case, you’d loan them some or all of the $300,000 they need.
They’d pay you back a certain amount each month with interest. It’s like you’re the bank lending them money.
So those are the three basic ways to make money as a real estate investor. The next few questions will help determine which type of real estate investor best fits you.
How to Get Started Real Estate Investing
Now we know the types of real estate investments and the most common ways people make money. It’s time to figure out which route is best for you.
Do You Want to Be an Active or Passive Investor?
The first step is figuring out how hands-on you want to be. Active investors take an active role in their investment. Passive investors let someone else worry about the details.
Do you want to be involved in the day to day aspects of your investment, or do you want to supply the money and forget about it?
With real estate, it’s not an A or B question, think of it more like a continuum. It’s not just if you want to be active, but how active you want to be.
You get to decide whether you’re trying to create passive income or whether you’re willing to put in more time to generate higher rates of return.
|Benefits||Drawbacks||Active or Passive Investment|
|REITs||Passive investment, avoids double|
taxation, potentially higher yields, commercial real estate-accessible, high liquidity
|Taxed as ordinary income, affected by interest rates, usually focused in single property type||Passive|
|Turnkey Rentals||Access to nationwide rental markets, move-in ready, immediate cash-flow, management team handles day-to-day operations, tax benefits||Higher fees, someone else managing the property requires high degree of trust||Passive|
|House Flipping||High profit potential, increased industry and local market knowledge, quick turnaround||High risk, additional or unanticipated expenses, unable to sell, stress, potential tax increases||Active|
|Being the Landlord of Your Rental Property||Local to the area, easier to have eyes on your property, tax benefits||Illiquid long-term investment, you handle all day-to-day operations and maintenance, actively involved at all times, vacancies||Active|
Active Investing Earns Higher Returns
Being an active real estate investor means you’re hands-on with your real estate investment. Being an active real estate investor is a big category, so I’ll break it down.
You might be the one physically putting new tile in a house you’re trying to flip, or you might just be setting up the contractors to do the work. Either way, you’re taking time out of your day to make sure the job gets done.
An active real estate investor might also do the legwork of getting renters into their apartment or scheduling needed repairs. You can be as hands-on or as hands-off as you want.
The more hands-on you are, the higher your returns are likely to be. The more active you are, the more time it will take out of your day.
Passive Investing Involves Less Time and Stress
Being a passive real estate investor means you hire out much of the day to day work. This can be as simple as hiring a property management company to take care of getting renters and scheduling repairs for you.
As a passive real estate investor, you give up some of your potential earnings via management fees in exchange for your time and sanity.
People who are already very busy, or don’t want to worry about all the responsibilities of an active real estate investor, might like the freedom that passive real estate brings.
If a pipe bursts at three in the morning, the passive real estate investor keeps sleeping, the active real estate investor gets a phone call.
The first step to jumping into real estate is figuring out where on the active/passive continuum you see yourself as a real estate investor.
If you have a lot of free time, but not a lot of money, you might be pretty far towards the active real estate investing side. If you are pressed for time but aren’t worried about maximizing your returns, then passive real estate investing might be for you.
Online Passive Real Estate Investing
What if you want to be super passive? You don’t want to worry about repairs or finding renters. Maybe you don’t even care about physically seeing the property. If that’s the case, online real estate investing might be right for you.
You don’t need to purchase real estate in your local market. Thanks to the power of the internet, there are several ways to be a real estate investor without ever leaving your couch.
Turnkey companies like Roofstock take care of everything for you. They do all the legwork to find you a home with renters already in it.
Roofstock doesn’t own the houses, so they’re only interested in negotiating deals that will work best for their clients. It means they’re not going to try to convince you to purchase a dud property.
Going through an all-in-one company like Roofstock is a great investment option for those who don’t want to deal with the headache of even finding a property management company.
If this sounds like you, our Roofstock review gets insanely detailed.
Passive Real Estate Investing with REITs
Let’s say you want to be even more passive than going through a company like Roofstock. Purchasing REITs is about as passive as you can get and still technically be in the real estate game.
A Real Estate Investment Trust (REIT) owns thousands of investment properties.
By purchasing a REIT, you’re investing in the company, not an individual building.
Investing in REITs is similar to investing in mutual funds in the stock market. You can buy REIT stocks traded on the New York Stock Exchange (NYSE).
It’s a dividend-paying investment with the legal requirement to distribute at least 90% of its taxable income back to the shareholders.
You can purchase REITs through Vanguard, T. Rowe Price, Fidelity, or wherever you invest. Most companies have a minimum investment amount of a couple of thousand dollars, but after that, you can purchase partial shares.
It works the same as your regular investment portfolios.
It’s the most passive way to invest in real estate as you mostly buy shares of companies that do business in the real estate market.
The returns probably won’t be as considerable as with other real estate investments, but it’s also less risky since one lousy deal won’t sink the whole ship.
How Risk Tolerant Are You?
Speaking of sinking the whole ship, how risk-tolerant do you want to be? The more risk you take on, the higher your potential rewards.
Are you looking for a safe path to gain a steady rate of return or would you rather risk a larger loss in hopes of a substantial gain?
For people who want to minimize their risk investing in REITs is the safest option. If you want the highest possible returns, you’ll be more interested in buying a house you can fix up and flip.
There are obvious risks with each type of real estate investment. You might buy a duplex only to find nobody wants to rent it from you. You might buy a piece of land in hopes the value goes up, but instead, it goes down.
Investors who lend money to real estate developers take the risk that the developer will lose their money or the market will turn, and nobody will buy the finished product.
When deciding to become a real estate investor, it’s critical to do your due diligence to be sure you’re limiting risk as much as possible. Each type of real estate investor takes on a different amount.
Working with a Real Estate Agent
Having a real estate agent you can trust is essential to helping you feel comfortable investing your money. Whether you want a rental property to generate cash flow, or simply want to buy and hold, a competent real estate agent can make all the difference.
If you want higher returns than REITs provide, or you don’t want to pay a company like Roofstock to do all the work for you, then you’ll need to find a great real estate agent.
They can save you hundreds of hours by immediately narrowing down your search and fit the exact criteria you’re looking for.
They also have the experience to know the difference between a good investment and a bad one. It’s one way to substantially lower your risk of ending up in a bad deal.
Become Your Own Real Estate Agent
Once you get comfortable in the world of real estate, you might decide that you don’t like paying the real estate agent’s commission. You can become a real estate agent for only a few thousand dollars and a couple months of study.
Many people who start in real estate investing end up getting their real estate license. It’s not uncommon for this side hustle to turn into a full-on real estate career.
Being a real estate agent is a lot more work than merely investing in real estate, but it can take the place of your regular job.
How much you can earn as a real estate agent depends on a few factors including:
- Your local real estate market
- How hard you hit the streets and get your business card in enough prospective hands
- How good you are at communicating with your clients.
It isn’t something to worry about when you’re just starting. It’s only one excellent way you can maximize your profits.
Realtors vs. Real Estate Agents
A realtor refers to someone who is a member of the National Association of Realtors. A real estate agent is someone who is licensed to help you buy or sell commercial or residential property.
Not everyone who is a realtor is technically a real estate agent. Property managers, home appraisers, and real estate brokers are all considered realtors but are not necessarily real estate agents.
How Much Research Do You Want to Do?
Before you make a purchase, you want to research the real estate properties you’re looking at. There are several things to consider:
- Find out what the property taxes are
- If you’re working with other investors, check to see if they’re accredited
- If you’re getting a loan through the bank, make sure your mortgage payment and interest rates aren’t going to bury you if you have vacancies
- Check to see if you can reasonably expect to meet the 1% rule (when the monthly rent earnings equal 1% or greater of the purchase price)
- Talk to your CPA about potential tax benefits for the different types of real estate investments
If you’re planning on doing a lot of the work yourself, these are just a few of the questions you’ll need to ask before you make a purchase. Some people love the research side of things.
For them, getting the answers is all part of the fun. If this is not you, consider going the online route.
How Much Capital Do You Have?
Another big question is, how will the real estate purchase be funded? There are three main ways to get started.
- Get a loan from a bank
- Find outside investors
- Invest your own money
Do you have the money to purchase a property on your own, or will you get a loan from the bank? Do you have outside investors who want to work with you? Knowing how your finances are situated will help determine the type of real estate investor you want to be.
If you plan on going through the bank, then your credit score is significant. The higher your score, the lower the risk your bank will consider you to be. A higher credit score will land you a favorable interest rate on your loan.
Getting a low-interest rate on a loan can make the difference between stacking piles of cash and just spinning your wheels.
What If You Don’t Have Any Money?
There are real estate investors who have money to spend but don’t want to do the legwork in finding properties. If you don’t have any capital, you can invest in real estate by being the middle man.
It takes a lot of time and effort, as well as having the right connections, but it’s possible to build wealth in real estate without ever putting your own money on the table.
Many real estate agents will pay a finders fee to anyone who connects them with a buyer. If you don’t have money, but you do have a lot of time, you can break into the world of real estate investing by connecting potential buyers with real estate agents.
Where Do You Stack Up?
After seeing the different options, which one sounds like it’s the best for you? Do you want to be passive and just buy REITs?
Would you rather own a real home but don’t want to worry about finding one in your area or taking care of the daily operations? Roofstock might be the best option for you.
Do you want to walk-thru the house you’re going to invest in and wouldn’t feel comfortable buying a place that’s not in your vicinity? In that case, let’s find you a real estate agent that can get you started.
Does the idea of fixing up a house and flipping it light you up? These are some of the questions to ask yourself. Once you know which direction to go, you’ll be well on your way.
You don’t have to have a huge net worth or even a lot of money saved up for a down payment to become a real estate investor. Whether you invest online by purchasing REITs or going through companies like Roofstock, or whether you buy brick and mortar homes in your area, investing in real estate is a great way to increase your wealth.
Talk to your financial planner and see if real estate investing should be part of your investment strategy.