Investing in the real estate market is an excellent alternative asset to diversify an investment portfolio.
For starters, real estate has a low correlation with the stock market, and home prices are much less volatile. Property owners are also able to take advantage of multiple tax breaks that enhance the return on an investment.
Finally, if investors build a portfolio of properties in geographically diverse regions, it protects can become a more resilient investor capable of weathering various storms. Here's a look at a variety of investment strategies.
1. Invest in rental properties
A property that has reliable tenants will generate cash flow on a steady basis. One of the ways to ensure this is to carefully screen applicants for a rental property.
For investors looking for passive income, hiring a property management company is essential. For a fee, a property management company will handle everything from tenant screening and security deposits to maintenance between tenants and even evictions.
Mynd, which has a tech-enabled platform for investing, financing, leasing, managing and selling investment properties, started out offering property management services.
When conducting due diligence, make sure to get a breakdown of every fee the property management company may charge as well as all the costs associated with a property.
Knowing which amenities to offer tenants and how to correctly price rent relative to the market is also essential. Too few amenities and rent that’s too high, and a property may remain vacant.
2. Buying and holding properties
Buying and holding is also known as rehabbing. To make this strategy work, an investor should look carefully at the return on investment of any improvement and act accordingly.
The underlying idea is that properties will usually appreciate over time. Investors are also building equity over time as their residents help them pay down the mortgage.
There are also strategies to reduce the tax burden when selling a property, including executing a 1031 exchange, which entails using the proceeds of a property sale to purchase one or more investment properties of equal or greater value. It is also called a like-kind exchange
Buying and holding can be applied to any type of asset class, from single-family homes to apartment complexes.
It’s useful to know how to get a fair cash-on-cash return, which is the measure of how much money an investment generates based on the initial outlay,.
It's also important to calculate the cap rate, which is the measure of how long it will take to recoup the initial investment and start making a profit.
3. Flipping properties
The difference between renovating a property for a long-term rental and a flip is that flipping entails renovating and then selling. Success in flipping is measured by how quickly the property is sold.
Flippers are seeking below-market-rate real estate deals, and quickly turning them over. But flipping a property subjects the seller to higher capital gains taxes than if a property is held for at least two years.
Successful flippers have a system in place, from access to affordable materials, a crew that can provide high-quality work at a fair price, and a real estate agent who can sell a property quickly.
4. Live-in flip
A live-in flip marries aspects of flipping and rehabbing. In this scenario, the investor lives in the property while it’s being renovated.
A live-in flip is an opportunity to pay zero capital gains taxes on a property that earns upwards of $250,000 for single filers and $500,000 for a married couple filing jointly. That’s all thanks to the Section 121 exclusion. The main qualifications are.
- Living in the property, and it must be your primary residence.
- Owning the property: the asset must be your primary residence for two out of the five years that precede the sale.
There is the risk that, in the midst of a live-in flip, an investor will need to move out. In that case, it's possible to qualify for a partial Section 121 exclusion, if the reasons for moving included.
- Job relocation
- Change in health
- Military deployment
- Unforeseen circumstances
An investor should consult with a tax professional if forced to move early.
Wholesaling, like house flipping, is not a passive form of investment. Also known as selling by assignment of contract, wholesaling is one of the strategies available to an investor who lacks access to credit or has bad credit.
Wholesaling requires a variety skills to be pursued effectively. These are the steps of wholesaling:
Find a property, arrange the price and conditions that work, and assemble a purchase agreement.
Find a buyer for the property.
Sell the property per the terms of the agreement arranged with the buyer.
The buyer is now the homeowner, the seller gets paid, and the wholesaler collects a finder’s or assignment fee.
6. Real estate investment trust (REIT)
Real estate investment trusts (REITs) invest in or provide the operating costs for real estate assets. REITs invest in various real estate assets, from data centers and apartments to office buildings and single-family homes.
Many REITs are traded on popular stock exchanges just like stocks, making them an accessible and highly liquid way to invest in real estate.
REITs are required to pay out 90% of their profits to investors in the form of dividends, and are usually a good source of reliable income.
7. Real estate investment group (REIG)
Real estate investment groups (REIGs) are groups of private investors who pool their finances and know-how to invest in real estate using various strategies, including those described above.
REIGs have the flexibility of various structures, membership fees (if any), and degrees of participation.
A REIG, unlike a REIT, is not a taxable corporation with a board of directors governed by strict rules and criteria. REITs, for example, must have at least 100 investors by the completion of their first year and five or fewer individuals cannot own at least 50% of the REIT.
REIGs, meanwhile, are governed by private agreements rather than government rules and regulations.
A REIG is a good choice for investors who want to own a stake in physical real estate, as opposed to a REIT, which pays dividends that come from investment in physical real estate.
A REIG, potentially, can also be a good way to learn how to invest in physical real estate from other members.
8. Property tax lien investing
Property tax lien investing entails covering the cost of outstanding taxes out on a tax lien as well as any interest and fees. When a property’s owner makes the property tax payments, the investor collects the principal and interest from the state or municipality.
Investing in property tax liens entails buying the property tax liens an auction, or by investing into special property tax lien investment funds managed by investment companies.
One of the challenges of investing in property tax liens outside of a property tax lien investment fund is that the auctions are competitive, and representatives of the tax fund are often bidding.
Buying a tax lien at an auction is lower risk because most owners make up their back payments in six months to three years. It is possible that the property owner will fail to make payments, which allows the investor to put the property into foreclosure, but this is uncommon.
9. BRRR investing method: Buy, rehab, rent, refinance, repeat
Buy, Rehab, Rent, Refinance, Repeat (BRRR) is a popular long-term property investment strategy.
The strategy entails performing the steps that constitute the acronym BRRR: buying a property at below market value, rehabbing it, finding tenants, refinancing, and then using the funds saved from renting and a potential cash-out refinance to repeat the process.
Eventually, however, BRRR allows an investor to repeat the process using economies of scale, which means that the project’s cost is more manageable because the amount of capital invested into the project makes for better deals on labor and materials.
10. Rental debt snowball and all cash rental plans
Rental debt snowball and all cash rental plans are two strategies that use the same principle: snowballing all money invested to accomplish a goal.
Rental debt snowballing entails utilizing the positive cash flow from all various revenue streams to pay off your mortgages one by one and strive to be debt-free.
11. BURL: Buy utility, rent luxury
The theory behind BURL is that buying properties that have a higher cap rate make it possible to recoup an investment and start generating a profit more quickly.
This approach may allow an investor to rent out luxury real estate with a low cap rate that would recoup their initial investment and start generating a profit more slowly.
The idea is that the appreciation of a luxury property in an area like New York City or San Francisco will make the investment worthwhile, even if cap rates are lower.
Bottom line on real estate investing strategies
With so many strategies available, it's like that there is one will suit just about any investor's cash reserves, risk tolerance, time, and level of involvement in the investment.
A seasoned investor also knows how to choose the right legal entity for a real estate investment, such as an LLC, so that they can benefit from various tax incentives and reduce their liability.
Real estate investor aren't limited to just one approach since many of the skills are translatable and there are many opportunities to enter the market.