The following is a guest post by Money Choices.
One of the most effective ways to build wealth is to invest in real estate. For the person just starting out, there are many ways to become a life-long real estate investor who eventually earns an additional income from properties in various locations. Properties of every imaginable type and purpose exist everywhere, and the wise investor sees real possibilities for profit with the right investment of money and hard work. Evaluate each of these ten techniques and determine which one is the most suited for your lifestyle and desired level of involvement.
[Kevin] If you’re looking at a depressed market like some parts of the U.S., then a rental could make a lot of sense! Rents tend to rise with inflation, and there is less downside risk if you’re already buying in at a lower price.
1. Single-family rental – Many real estate investors start with their own home that is kept when a move is required to follow a career move to another location. The home is rented to a tenant and maintained over the distance. Rental income is used to pay the expenses to maintain the property.
2. Multi-family rental units – Duplex and four-plex housing units are purchased for rental income that is used to pay-off the property and maintain the condition. As property values increase, the units are updated or the entire building is sold for a profit that will be used in the next venture.
[Kevin] Downside of this is that you have to manage the tenants, and from some of the stories I’ve read as well as personal experiences, this isn’t always fun!
3. Conversion property – Zoning laws within a city will often change the purpose of a property from residential to commercial. The investor can purchase a property within the reclassified zone and remodel the interior to serve a commercial purpose. Old homes with appealing exteriors become fascinating office spaces and the rental income can be substantially higher than simply renting the home as a residential property.
[Kevin] I’ve seen this happen to small homes near busy roads. Some of these can become quite nice offices for accountants or notaries.
4. Passive landlord – When a buyer purchases a commercial or residential property and hires a property manager, the owner is considered passive. All maintenance and tenant interaction is handled by the manager. Properties that are owned in distant places are often managed professionally.
5. REITs (Real Estate Investment Trust) – A fund created by a corporation that uses investors’ money to purchase and then manage investment real estate properties. To avoid federal income taxes, the corporation must pay out 90% of the annual profits in dividends to the investors every year. REITs are bought and sold on major financial exchanges in the same manner as stocks and bonds.
6. Real Estate Investment Group – A smaller fund where investors can participate in multi-unit ventures and the company manages the units. Each investor owns whole units that are then managed to collect rent and find tenants. The company retains a portion of the rent as payment for services. One advantage to this approach is the protection against income loss when the unit is vacant. Each investor contributes a certain amount of their monthly income to a fund to pay fellow investors when their units are vacant.
7. Leverage – Investors with an excellent personal credit rating can qualify for a second mortgage on their primary residence and invest only a fraction of the price of the rental property as a down payment. As long as the property is rented, the mortgage is covered and the property will gain value prior to a future date when it is sold. The loan payments are maintained, but the other property is leveraged as collateral on the loan for the rental property. Veterans can also compare VA home loan rates.
[Kevin] This is a way that many have expanded their real estate holdings, but it only works well when prices are rising and rates are not too high. Such a strategy can crush you if you go overboard and leverage 5-6+ homes, and then prices fall.
8. Flipping property – Homes that have fallen into disrepair or commercial properties that are standing idle can often be purchased in auctions or bank sales. Money invested in improving the property can ultimately become profit in the sale of the property. You can see more of Than Merrill here, to see how a professional house flipper does it. Keep in mind, many properties bought with the intention of flipping are never inhabited prior to the sale.
9. Appreciation of property – Rental properties that are held for a number of years will earn rental income and increase in market value. When the property is sold and a profit is realised, many real estate investors will take the entire yield from the sale and purchase two properties to expand their holdings. Location is the primary factor in the rate of property appreciation.
10. Buy below market – Real estate markets that fluctuate radically can be prime markets for investors with a keen sight for the upward turns. Every market will eventually recover from large drops in value, so the smart investor watches the area and buys at the lowest price. As the area recovers, the property is sold while the prices are still rising.
[Kevin] I agree with this, and another tip is also to look for those looking to leave an area quickly or those that are fed-up with the property management game. They will often sell at a better price than those that are willing to wait for the best offer.
Reams have been written about each of these techniques for real estate investment. Careful research will provide all the information necessary for educated decisions about the best method of investing. Consult a financial advisor to determine the threshold of investment that is affordable within your portfolio. Many investors have been trapped with too much debt and had to start over when markets decreased in value. Beware of deals that appear too good to be true. Engage a set of trusted advisors with experience in real estate investing to prevent losing valuable funds in schemes that are destined to fail.
David is co-founder at Money Choices, a leading website based outside Sydney where users can compare home loans for real estate investors and new home buyers in Australia.