Basics of Real Estate Investing: Real Estate Investing Fundamentals
The basics of real estate investing can be challenging for those unfamiliar with the industry. We’ll cover property types, rental income, buying strategies, and more! This article will provide a comprehensive guide on investing in real estate and what you need to know before making your first purchase.
When most people think of real estate investing, they picture buying a house and renting it out to tenants. While this is one common strategy, there are many ways to invest in real estate. There are so many options that it can be overwhelming for new investors.
Real Estate Investing Fundamentals: Different types of real estate investments
Although several unique real estate investment techniques are available, they may all be divided into three categories. These three categories are flipping, wholesaling, or owning rental property. Flipping is the big money of real estate investment strategies because it’s a great way to make a lot of money. Wholesaling real estate is fast money because you can make solid money in a short period of time, and lastly, rental properties are the passive money you can earn while you sleep.
- Flipping Properties
- Wholesaling Real Estate
- Rental Properties
1.) Flipping Properties
If you’ve ever watched a show about real estate investing, it was most likely a flipping show. The idea behind this strategy is to buy dated or distressed houses that nobody wants to live in (known as fixer-uppers), renovate them so they become desirable, and then sell them for more than all your costs plus a profit. The owners of fixer-uppers may have inherited or used them as rental properties for years without repairing any of the problems. They must invest their time and money to reach a desirable level. Most owners don’t want to do this kind of work and would rather sell their home for less than its worth in exchange for a fast closing.
You make money by flipping properties by making sure you know all your costs. These can include closing costs, property insurance, property taxes, utility bills, staging costs, etc.
Find out the after repair value (or ARV)
Use comparable homes in the area that are renovated to establish a value for the home you’re analyzing if you were to renovate it.
Figure out the cost to renovate your home
Use contractors to give estimates on a complete renovation. You should use multiple opinions to be safe.
Run your math
Start with your ARV, multiply by 70%-75% depending on your financing and desired profit (some aggressive cash investors go as high as 80%), and subtract the repair cost.
For example, 500k ARV with 80k in repairs would look like this:
- 500 x .70 = 350k
- 350 – 80 = 270k
Remember that about 10% of your ARV will usually cost unrelated to rehab and profit. That means you would profit roughly 100k on this property if you used all of your money. If you got a loan and had to make interest payments, you’d make 100k minus the amount paid in interest. Although you’d make less, your return on investment (known as ROI) would be higher because you would have been able to get the project completed with less of your money in the deal.
A lot can go wrong if you pay too much for a house by either underestimating the cost of the repairs or overestimating the ARV. If you have any high-interest loans, the interest payments could eat into your profits if you get delayed and put you in a bad situation. A lot of investors lose money trying to flip properties because there are a lot of moving parts. This is a very hands-on approach to real estate and isn’t for everyone.
You can flip more than just houses. You can convert any type of real estate, but the key is buying it right, which is much easier said than done. Most seasoned real estate investors agree that the most challenging part about flipping real estate is finding the deal. Many real estate investors will pay to find deals and spend thousands in the form of a wholesale fee.
2.) Wholesaling Real Estate
Wholesaling is the process of finding a property, getting it under contract, and then selling that contract to another real estate investor. This strategy aims to make money from the difference in price between what you buy it for and what you sell it for.
To sell before closing, you must have an “assignability clause” in your contract. This means that the contract is fully transferable to another buyer. You don’t have to own the property to do this; in most cases, it’s easier to sell the property before the close date so that you don’t have to apply for any loans or work on the house.
The best way to do this is to compile a list of investors interested in buying undervalued real estate. You can find investors online or in person at real estate clubs. Next, you market to people behind on property taxes, in pre-foreclosure situations, or even owners of homes for rent. You’re targeting anyone that might be interested in selling their property quickly and for less than market value. You then make offers on their properties, trying to find a great deal.
Marketing a Wholesale Deal
Once you put a tremendous real estate investment under contract, you notify all of your buyers that you have a deal and mark the price up 5k-20k or more, depending on the deal. There’s no amount too big or too small for a wholesale fee, but remember, if someone is going to buy your property and pay you a fee, the numbers have to make sense to them, or else they won’t buy your property.
This sounds simple, but it’s tough because there is a lot of competition for deals, and you need to get them for a bit cheaper than the flippers or investors you’re selling to who are using the same strategies to find deals. Also, if you fail to find a buyer for your deal, you can get into problems with the fixer-upper sellers. These owners enter an agreement with you, believing you will buy their property, only for you to back out a short while later.
3.) Rental Properties
Rental properties can be a great way to make passive income. It’s ideal to have a property that can generate more monthly income than it costs in mortgage payments, property taxes, insurance, and repairs/maintenance to make monthly money. If you do this, then it’s considered property with positive cash flow. Purchasing a property and then renting it out to tenants that pay on time is this type of real estate investing goal.
Cash flow is the amount of money minus what goes out. This can be either positive or negative for a property, depending on how much money is coming in compared to how much it’s costing you.
Typically speaking, real estate values always go up, but that’s certainly not always the case. Every real estate market is different, and it’s essential to know the population trends, job growth, demographics, and other factors that might impact real estate values in the future. It’s critical to know the right areas to invest in to maximize the performance of your real estate investor. An excellent rental property not only has positive cash flows but also appreciates.
Rental Property Risks
The most significant risk with these types of properties is the risk of leasing to a bad tenant. A tenant can be harmful because of two main reasons. They’ll either not pay their rent or cause damage to the unit. The worst tenants are guilty of both. You can mitigate this risk with proper screening, credit score checks, and proof of employment.
You become a landlord when you buy a rental property, and being a good one takes work. Rental property owners need to be aware that although this can be a relatively passive form of real estate investing, it will likely still require your time and effort to make your real estate investment a success. The only way to stay passive is to have someone do the work for you.
Property Management for Rental Property
You can hire a property management company to manage the property on your behalf. Typically they charge about 10% of the property’s gross income to manage it. If you don’t have an asset that produces enough revenue, the property manager can find sneaky ways to put more money in their pocket, impacting your investment property’s performance. Not to say that this will happen if you don’t buy a large enough property, but the property manager is much more likely to manage your property well if it’s larger and produces good cash flow for them to make sense of working it.
If you don’t have the money to buy one, there’s still a great way to do it. It is called a real estate syndication and the best way to make money investing in real estate. This is because it not only gives access to professional property managers who can manage high cash-flowing real estate assets, but it’s also a genuinely passive form of real estate investing. One way to avoid this is by investing in a larger property that produces more income.
What is a Real Estate Syndication
A group of investors joining together to invest in a property is known as a real estate syndication. The syndication will have general partners (known as the GPs) and limited partners (or LPs). The GPs are responsible for finding the deal, arranging all of the legal documentation, hiring property management, collecting the down payment from all of the LPs, adding value to the property (usually, but not consistently, through renovations), and distributing monthly or quarterly distributions to the LP’s in exchange for a small piece of “sweat equity” in the real estate deal.
Why Real Estate Investors Prefer Investing This Way
LPs invest their cash into real estate deals and are not responsible for anything else. They also carry no liability other than their initial investment. Most GPs will target significant, stable, income-producing real estate assets to ensure their LPs can earn money consistently. LPs’ income depends on the investment property’s performance but is also tied to how much capital they invest.
A typical investment minimum is $50,000, and can have hundreds or even thousands of limited partners. The opportunity to invest in real estate that would otherwise be reserved for people with millions of dollars to put down as a down payment is a massive advantage to the average investor who lacks the money or experience to do it on their own.
Frequently Asked Questions About The Basics of Real Estate Investing
The 1% rule is a general guideline that investors can use to estimate whether a property will have a positive cash flow or not. If the rental income of a property is 1% or more purchase price, or purchase price and rehab cost, then it will likely serve as positive cash-flowing property.
Some real estate investors make a career, while others do it as a side hustle. If you’re going to be successful at real estate investing, you need to treat it like a business and always have your next deal in the works, even before your current one is finished or has been sold. Many of the world’s millions made their wealth through real estate ownership, so real estate as a career is possible.
There are a few different things that property investors do. Some of them will buy a property and do some light rehab to ensure everything is up to code before they put it back on the market, or they’ll keep it for the long term as a rental. Other property investors might live in their investment properties and rent out the other part or parts of the property, depending on the nature of the property. A lot depends on the individual investor’s goals and resources.
The basics of passive real estate investing are best learned through experience, so to start understanding real estate, you should invest in a property or two. You can even buy some properties with no money down using creative financing, but it’s often difficult to find deals with this type of funding. If you’re not comfortable starting this way, real estate clubs or even getting your real estate license can be a great way to build a knowledge foundation and better equip yourself. Another great way to learn is by investing in a real estate syndication.
Basics of Real Estate Investing - Conclusion
We’ve covered what it takes to succeed with different passive real estate investments and buying strategies. Now it’s time for you to research the properties that are right for you and your investing strategy. If you’re looking to get your feet wet in the real estate industry, then it’s best to continue down the path of learning. You accelerate your knowledge by clicking here to join our FREE 5-Day Passive Real Estate Investing Video mini-course.
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