4 Ways to Invest in Real Estate
Many investors look to incorporate real estate to their portfolio as a way to diversify from strictly stocks and bonds. When you dig further into the unique benefits of real estate, it’s easy to see why it’s the preferred asset class for high-net-worth investors.
Once you’ve decided to invest in real estate, the question then becomes how? Today we will explore the 4 ways that you can start investing in real estate.
1. Direct Ownership
The first and most common way to gain real estate exposure in your portfolio is through buying an investment property such as a single-family or small multifamily apartment building.
The biggest advantage to this type of investment is that you have complete control over the investment: what to buy, when to sell, which tenants to lease to, and when to refinance. Additionally, no one is splitting your profits.
The downside to direct ownership typically arises from the illiquid nature of the asset, the lack of diversification, and the work required. While the real estate market has been fairly liquid over the last few years, there are periods of time that even the well-located, well-priced assets sit on the market. Additionally, most real estate deals take over a month from contract to closing, so if an urgent need for capital arises, real estate can be of little help.
Secondly, with single-family and small multifamily properties, your asset diversification and tenant diversification are limited in scope. A single-family rental is either rented or not. Compare this with larger assets or an investment in a portfolio of assets, and the reliance on a single tenant is minimal. Building a portfolio of properties requires large amounts of capital.
And third, direct ownership will always carry work with it. While this may be minimal, it is not nonexistent. If your manager is not performing, you are the one responsible for firing and hiring. Even with a good manager, you will be on call to approve work scopes and handle other items that a manager typically does not handle, such as insurance and tax payments or bookkeeping for non-operating items. This is why it’s important to determine whether you want to be an active or passive investor.
2. Real Estate Investment Trusts (REITs)
The second way to invest in real estate is through Real Estate Investment Trust (REIT), which is a publicly traded company (similar to a stock or mutual fund) that owns and operates numerous commercial real estate properties. With a few clicks in Robinhood or your Vanguard account, you can have exposure to real estate.
The biggest advantage to investing in REIT shares is that it is the most liquid. Just as simply as you can buy shares, you can also sell your shares. Additionally, the buy-in is very minimal and likely limited to your brokerage account minimums for partial shares.
One downside of REITs is the volatility and lack of diversification from stocks as the share price can fluctuate dramatically with consumer sentiment and the broader stock market. According to research performed by Black Creek Group, publicly-traded REITs have a 0.65 correlation in quarterly returns to broader public equities which means they do not offer a strong hedge against a stock market downturn.
Another downside is that the income you receive from your REIT investment is taxed as ordinary income (similar to your normal paycheck), which removes a key benefit as direct ownership and syndications offer strong tax benefits to help investors keep more of their income.
3. Crowdfunding Platforms
The third way to invest in real estate is through crowdfunding platforms, which have emerged over the past decade. Some of the common real estate crowdfunding platforms are Fundrise, RealtyMogul, Rich Uncles and Yieldstreet just to name a few. The vast majority tout their experience, highlight customer testimonials, and brag about the venture capital firms who have invested in their business model.
The most common model is using private eREITs which is similar to a traditional REIT in structure and tax treatment. These investments also offer investors the opportunity to gain exposure to real estate with low minimums, with less correlation to the public market.
A drawback is that these crowdfunding platforms have second-tier opportunities as the highest quality real estate opportunities have no difficulty attracting equity directly from investors.
The other drawback is the high fees as eREITs can assign any fee to the deal that’s most advantageous to the platform, not its investors. To make matters worse, on top of the fees associated with the actual deal, there are also fees charged by crowdfunding platform for managing the fund. These platforms typically charge a 0.85% asset management fee in addition to a 0.15% (or more) advisory fee.
The final way to invest in real estate is through a syndication, which is a structure that enables a pooling of capital amongst many investors to acquire an asset or assets that would otherwise not be accessible to individual investors. Syndications offer the benefits of direct ownership, specifically tax benefits, without all the work.
Because of the size of assets typically acquired through a syndication, you can resolve the tenant risk seen in single-family and small multifamily properties. And like public REITs, these are passive investments, so you can simply review financials to monitor investment performance without having to answer tenant or manager calls directly.
There are several disadvantages to syndication, however. First, many syndications require their investors to qualify as accredited investors due to SEC rules, and therefore there may be certain syndications that you are not able to invest in.
Second, most syndications require a minimum investment, typically in the $25,000–$50,000 range, that can be substantially higher than buying a share of a REIT, and sometimes higher than the down payment of direct investment.
Lastly, syndications are quite frequently illiquid, and your capital remains tied up until the sponsor decides to sell assets.
Depending on your goals and investment criteria, any of these options could be a good fit for you to add real estate to your portfolio.
Our team here at Limitless Investing believes that investing in pre-vetted, no-hassle, hands-off real estate syndications with proven sponsors in strong markets is the best option, which is why we focus our capital on these investments and help our investors to the same.
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