How To Start Investing In Real Estate: What You Need To Know

A real estate investment portfolio can potentially help you create a passive income stream and build wealth at the same time. But before putting your hard-earned dollars into a real estate investment, it’s critical to understand the basics of real estate investing.

Real estate investing is an alluring option due to its potential for profit and the opportunity to create passive income. With the right property and assets, investors have the chance to generate cash flow and income that can grow over time.

Another draw of investing in real estate is the ability to create a diversified portfolio and the ability to take advantage of certain tax breaks. For example, you can deduct your mortgage interest and any necessary repairs you make to the property on your tax returns.

In general, there are two types of real estate investing you’ll encounter — active and passive investments. The main difference between the two lies in whether you directly own or manage the property.

We take a closer look at each style of real estate investing below:

• Active: Active real estate investing is a hands-on role where you’ll purchase and manage the property directly. This looks like buying a house with the goal of renting it out seasonally as a vacation home.
• Passive: In comparison, passive real estate investing doesn’t require as much ongoing effort. Crowdfunding, real estate investment trusts (REITs) and real estate funds are all ways to invest in real estate without acting as a landlord.

If you want to dive into the world of real estate investing, getting started is often the hardest part. Before you get your feet wet, make sure you learn more about your investment options, get clear on your investment goals, and be honest with yourself about the commitment you can make.

1. Understand Real Estate Investing Basics

Anyone considering investing in real estate should consider building up their knowledge of how real estate works before diving in. It’s very helpful to understand the basics of how the industry works.

Start by building a foundation that includes a good understanding of real estate basics such as profitability, cash flow and financing. Learning the vocabulary and understanding key concepts will then help you when you approach bigger topics like how to make money in real estate and building a real estate portfolio.

One option is to take an educational course offered by a real estate trade group like the Institute of Real Estate Management or the National Apartment Association. Both groups offer webinars, courses and even certifications you can receive. You can also find many free real estate resources to help you beef up your knowledge.

2. Determine Your Risk Tolerance

As with all forms of investing, real estate investing comes with some level of risk. But the amount of risk you take on in real estate investing varies based on the type of investment you choose.

As an investor, you’ll have to determine your level of risk tolerance so you can decide which investments meet your financial goals.

Your risk tolerance will largely depend on your personal and financial situation. For example, if you have a family to support, a mortgage payment and a lot of other monthly expenses, you may want to choose less-volatile investments.

Notably, one of the best ways to mitigate risk is by building a diversified portfolio. With multiple types of assets tied to different risk levels, your robust portfolio can likely stay afloat even if one asset underperforms your expectations. In addition, building a strong portfolio lays the foundation for understanding your unique overall approach to real estate investment and portfolios of property.

3. Choose A Real Estate Market

The right location can make all the difference to the value of a property. But beyond the individual location, you’ll need to decide which real estate market to work in. The location plays a huge role in determining what’s a good investment real estate market.

Certain areas are highly sought after on the hot real estate markets, making them competitive but promising. They’re typically fast-growing locales with opportunities and entertainment available. So, you may need to research what the best places to invest in looks like to you.

To find a good location, you’ll start by figuring out how much money you’re able to invest and looking for properties that fit within your budget. You’ll also want to look at the local economy and job market in that area to determine whether it’s growing. It’s also important to consider the population growth and what the renter population is like.

Also, you’ll need to consider your preferences. Some investors choose to self-manage their properties, which tends to be easier if you live nearby. But it’s not impossible to invest in markets outside of your local radius.

4. Decide What Type Of Investment You’re Making

Real estate investing can be incredibly hands-on or entirely hands-off. You’ll need to decide where on the scale you want to fall.

Owning rental properties usually requires more work than investing in other types of real estate. It also comes with significant costs, like paying for property taxes and routine maintenance. And you only make money on a rental property if you have a paying tenant. You’ll need to figure out the vacancy costs as well.

If you’re looking for a more hands-off approach with fewer expenses, you’ll probably want to consider more passive forms of real estate investing. For example, a REIT is a more passive form of real estate investing.

5. Start Searching For Properties

With a clear idea of where you want to invest and how you want to invest, it’s time to start looking for a property.

When you find potential investment properties, you’ll need to do some research into the particular home and the area it’s in. If the property is in poor condition or located in an undesirable area, it becomes less valuable. You can identify the profitability and volatility of an individual property through analytic software and reporting services.

6. Figure Out Financing

Once you find the right investment property, you’ll need to find financing for the deal. In general, financing an investment property is more challenging than buying a primary residence.

You may be able to qualify for a traditional mortgage through a bank or credit union. However, these mortgages are riskier, so you’ll need to have a strong financial history and a good credit score to qualify.

Other options to consider include: 

• Freddie Mac’s Investing Property program: This is designed to help borrowers get the financing they need for investment properties of one to four units.
• Real estate crowdfunding: Crowdfunding involves asking the public to help fund the venture. You’ll ask other investors to help you fund your real estate investment and share the risk with them.
• Holding multiple mortgages: You may be able to take out more than one mortgage to help finance your real estate investments. However, this can be a risky strategy and some banks aren’t willing to let you hold multiple mortgages at once.
• Loans for flipping houses: You may be able to obtain a loan from a private lender to specifically fund house-flipping ventures. A hard money loan, home equity loans or cash-out refinance may be a better way to fund house flipping ventures than a traditional mortgage.
• Opportunity zones: Opportunity zones involve investing in a disadvantaged community, which provides tax benefits under the Tax Cuts and Jobs Act of 2017. This is a good option for anyone looking to improve economically disadvantaged areas.

7. Monitor Your Gains And Losses

While each investor may have slightly different goals, the general objective is to build an income stream and grow wealth. It’s important to assess your progress toward these general goals along the way.

There are several different ratios and calculations you can use to help you understand your progress. Some work better for certain properties, like residential versus commercial, so it’s important to do your homework before using one. Examples of metrics you may need include net operating income (NOI), internal rate of return (IRR) and operating expense ratio (OER).

When it comes to real estate investing, you have a lot of options to choose from. We explore some of the most popular types of real estate investments below:

• Real estate investment trusts (REITs): A real estate investment trust is a company that makes a profit through real estate, sometimes through income-producing properties or office buildings. As an investor, you can purchase a share of the company to add real estate to your portfolio. In some ways, this can feel like a mutual fund.
• Rental properties: A rental property is a physical property that you buy to rent out to tenants. As your tenants pay rent, you can build an income stream and equity in a property.
• Commercial real estate: Commercial real estate includes things like hotels, retail stores, and offices. While this market took a hit during the pandemic, it’s recovering. Typically, investors enjoy a longer lease term, which translates into a more consistent cash flow.
• Crowdfunded real estate investment platforms: Crowdfunded real estate investment platforms allow individual investors to contribute capital to a project. In many cases, the funds are illiquid for an extended period of time.
• Mortgage bonds: A mortgage bond is created when lenders pool mortgages together to sell them to real estate investors. The appeal of these bonds is that they are backed by the collateral of physical homes.
• Mortgage-backed securities (MBS): A mortgage-backed security includes multiple mortgages that loan issuers bundle together and sell to traders in the bond market. It’s a more indirect way of investing in the mortgage industry.
• Tax lien investing: Tax lien investing is another relatively indirect way of investing. It involves traders purchasing tax lien certificates, which are created when a property owner fails to pay their property taxes. As an investor, you can purchase these certificates through an auction. Ultimately, you can claim the home if it hits foreclosure. But the original owner could pay back the taxes to reclaim their property.

Like all kinds of financial decisions, real estate investing comes with advantages and disadvantages. Below is a look at some of the pros and cons to consider.

You have questions about real estate investing. We have answers.

How can I invest in real estate?

You can start investing in real estate in multiple ways. Some popular options include buying rental properties, flipping properties for a profit, buying a REIT and backing a project through a crowdfunding platform.

Is it a good idea to invest in real estate?

While investing in real estate could be a good idea for your goals, it’s important to consider your unique situation before diving into real estate. If you have limited cash on hand, building an emergency fund or paying off high interest credit card debt may be the preferred course of action.

What type of real estate investment is the best?

The best type of real estate investment varies based on your situation. If you have the time and cash to purchase and manage rental properties, it might be the best for you. But if you have limited time and cash, then a REIT or crowdfunded real estate option might work better.

How much can I make from real estate investments?

The amount of money you can make from real estate investments varies widely based on the types of deals you pursue and how long you stick with it. As you build your portfolio, the amount you’ll earn each year will likely grow.

Being a real estate investor is very possible for many. While it requires some research and commitment, this type of investing could help you grow wealth for the future.

If you are ready to start buying property, apply for a mortgage today.