Before you invest in real estate, it is important to consider your financial situation, investment goals, risk tolerance, and more to determine if it’s a suitable investment choice for you.
Too Long; Didn’t Read
- Real estate is not the ticket to getting rich quick by doing very little work.
- Investing in real estate is not a good decision for everyone.
- Investing in real estate requires ongoing costs such as taxes, maintenance, mortgages, etc.
- There are many types of real estate to invest in. Residential, commercial, and land are the main three categories.
- You’ll need a good team of accountants, lawyers, contractors, and other professionals.
What Are the Risks of Real Estate Investing?
While real estate investing can build wealth, it also carries significant risks to be aware of upfront.
Illiquidity
Unlike stocks which can be sold quickly, real estate takes much longer to convert to cash. Meticulous budgeting is crucial to handle ongoing costs like taxes, maintenance, mortgages etc. during holding periods.
Tenant Problems
If you’re looking at purchasing a rental property, keep in mind that finding and retaining quality long-term tenants is key for generating stable rental income. Late rent, vacancies, property damage, evictions, legal disputes etc. can quickly eat into profits. Property management helps but adds costs.
Unknown Property Conditions
Unless extensively inspected prior, you may uncover costly maintenance issues, defects, environmental problems, zoning restrictions, and more after purchasing a property. This highlights the need for thorough due diligence.
Market Cycle Vulnerability
While real estate prices are less volatile than stocks short-term, values do fluctuate significantly in economic cycles. Market declines and rising interest rates can negatively impact investors over the long run.
Capital Intensive
Substantial capital is required, whether your own funds or money borrowed via mortgages. Save enough to withstand periods of low occupancy. Unexpected expenses can also arise so have reserves.
Properly assessing and planning for these real estate investing risks is key to avoid major pitfalls. Weigh the hazards against the rewards before jumping in.
Does Real Estate Investing Build Wealth?
Investing in rental real estate can be an effective way to build long-term wealth if done properly. Here are some of the key ways it can grow your net worth:
Appreciation
As rental property values increase over time, this builds equity that can eventually be tapped through cash-out refinancing or realized as profit when you sell. However, market appreciation is never guaranteed.
Cash Flow
The ongoing monthly cash flow generated from rent payments, after expenses like mortgage, taxes, and maintenance, results in generally steady income. Budget carefully as costs can quickly eat into profits.
Mortgage Paydown
With consistent rental income covering your mortgage payments, your equity share in the property slowly increases over time as the loan principal is paid down. This builds net worth tied to the asset.
Tax Advantages
Unique tax deductions investors can take advantage of include mortgage interest, property taxes, repairs, and depreciation. To get you started, check out our blog post on commonly missed tax deductions by real estate investors. Always discuss rules with a tax professional.
Leverage
The ability to leverage other people’s money through mortgage lending allows purchasing higher-value, income-producing assets than possible when funding entirely with your own capital.
Should I Invest in Real Estate or the Stock Market?
One of the most common questions around investing is whether to put your money into real estate or the stock market. Both offer potential benefits as well as risks to consider.
Diversification and Capital Required
A key advantage of stocks is the ability to diversify across many different companies and industries rather than tying up capital in individual physical properties. You can invest small amounts in hundreds of stocks through mutual funds and ETFs. With real estate, your money is more concentrated and you must save up substantial down payments.
Income Streams
While stocks provide dividend income, real estate can offer more consistent rental income. It is important to note that being a landlord requires ongoing property management, so it is less of a “set it and forget it” investment. Tenants handle your mortgage payments but you have to deal with maintenance, vacancies, legal issues etc.
Volatility and Liquidity
Individual property values tend to fluctuate less drastically than stock prices day-to-day. However, real estate values can still shift significantly during economic cycles. Also, property is less liquid than stocks which can be sold immediately. Budgeting for real estate holding costs is key.
Leverage Capacity
The ability to utilize mortgage lending provides more leverage with real estate, allowing you to buy higher value properties with less personal capital. But this also magnifies risks if the market declines.
What Types of Real Estate Should I Invest in?
If investing in real estate seems right for you, the next question is what type of property to target.
Residential Rental Properties
Single-family homes, duplexes, townhomes and multifamily apartment buildings all offer stable returns from rental income. A property manager can handle maintenance.
Commercial Properties
Office spaces, retail centers, warehouses, and industrial buildings provide opportunities, often through REITs that pool investments. Tenants handle maintenance.
Raw Land
Undeveloped land can become more valuable over time as areas develop. But it requires patience and ties up capital for longer periods.
How Do I Get Started with Real Estate Investing?
Investing in real estate takes substantial capital and knowledge. There are a number of important steps that beginners must take.
Learn the Basics
Educate yourself on terminology, asset types, legal factors, and the overall process before investing money.
Start Small
Don’t overextend with your first investment property. Begin with a small rental or REIT to gain experience.
Find a Mentor
Having an experienced real estate investor provide advice can avoid costly rookie mistakes.
Make a Business Plan
Develop a solid written plan for your investing strategy, target properties, financing, exit strategy etc.
Look for Deals
Be patient and ready to act when you find discounted properties with upside potential in desirable markets.
Build Your Team
Vet and hire accountants, lawyers, property managers, contractors and other professionals you’ll need. At JBS, we have decades of helping individuals that own one or many properties. If you fit into this category and need an expert, contact us!
Final Thought on Whether to Invest in Real Estate
Real estate investing offers potential rewards, but also carries risks requiring extensive capital, leverage, and specialized expertise. For many, a balanced portfolio including REITs and rental property, combined with stocks and other assets, can be an ideal mix of diversification and long-term wealth building. But weigh your individual risk and available capital before deciding if direct real estate investing is right for you.
