Real Estate investing is a tried-and-true method to build wealth, but getting started can be intimidating. There are many types of real estate investments; which would work best for you?
This article serves as a guide to help you answer that question and put your money to work in the real estate market. We’ll discuss three strategies new real estate investors can use to build their portfolios.
Strategy One: Purchase Rental Property and Become a Landlord
Strategy Two: Become a Flipper
Strategy Three: Join a Real Estate Investment Trust (REIT)
Strategy One: Purchase Rental Property and Become a Landlord
One of the most common methods of investment diversification is purchasing an investment Property, then using the monthly rent to make mortgage payments. Before you run to the closest open house, sit tight – let’s make sure property management is right for you.
Great landlords aren’t just financially invested in their communities – they’re also personally invested in the wellness of their renters and the neighborhood. Unfortunately, the personal side of becoming a landlord is often neglected when discussing this investment strategy, but it shouldn’t be. Landlords offer a service to tenants and are uniquely positioned to build their communities by providing a safe, comfortable living environment.
To better understand the scope of what that entails, consider the Uniform Residential Landlord-Tenant Act (URLTA) of 1972. This document outlines the obligations to which landlords and tenants should be held, and it’s been adopted as law in many states.
According to URLTA, landlords must:
- “comply with applicable building and housing codes affecting health and safety
- make all repairs and do whatever is necessary to put and keep the premises in a fit and habitable condition
- keep all common areas in a clean and safe condition
- maintain electrical, plumbing, sanitary, heating, ventilating, air-conditioning, and other facilities and appliances in good and safe working order and condition
- provide and maintain appropriate receptacles for removal of garbage and other waste, and arrange for their removal
- supply running water and reasonable amounts of hot water at all times and reasonable heat (between October 1 and May 1), except where the law does not require the building be so equipped, or heat or hot water is generated by an installation controlled by the tenant”
If you’re excited about the prospect of serving future tenants, then congratulations – you should become a landlord! But first, you’ll need real estate – and for most Americans, that means you’ll need to qualify for a mortgage loan.
1) How to Qualify for a Mortgage: A Crash Course
Qualified borrowers secure better loans (with lower mortgage payments) than their less-than-qualified peers. To make yourself an ideal lendee:
- Pay off as much high-interest debt as possible
- Get your credit score to at least 650
If your credit score is low, that’s okay! Take six months and raise it using these tips. A higher credit score and a lower debt-to-income ratio will mean a lower down payment and better mortgage interest rates, so it’s well worth the wait.
Pro Tip:
Learn how to finance your investment property purchase with TurboTenant! You should also build up an emergency fund with at least three months’ worth of mortgage payments plus property taxes.
Once your financial ducks are in a row, find a lender who has experience with rental property mortgages and ask to start the pre-approval process. Your pre-approval will outline how much you can borrow based on your personal financial history, and having it ready helps you hone your property hunt so you don’t waste your time chasing a purchase price that’s out of reach.
2) Find Your Investment Property
When evaluating real estate properties, strategic investors have set parameters that each unit will meet. These parameters are also called your buy box. A buy box outlines the characteristics of a property that would make it the right fit for your real estate portfolio, and buy boxes are as unique as the individuals who create them. To define your buy box, Landed recommends considering the following:
- Where would your ideal property be located?
- What type of property would it be? Single-family, multifamily, condo, etc.?
- What square footage and/or number of bedrooms and bathrooms do you want it to have?
- What amenities do you want it to have?
- How much are you willing to pay for such a property, based on your pre-approval?
Once you know the scope of your search, there are a few strategies you can use to speed up the process:
- Work with a real estate agent. Look for someone with experience in finding rentals for the best results!
- Canvas your target neighborhood. If you have thick skin and time to spare, knocking on doors in your desired area might lead to your next property purchase.
- Check out local courthouse auctions. Google your city and the phrase “real estate auction,” then look up the various properties that will be sold.
Pro Tip:
Hungry for more information? Don’t miss out on the recording of our free webinar explaining how to implement these strategies.
3) Become a Landlord
You found your perfect investment property – now it’s time to find the perfect tenant! But you’ll need to have your policies and procedures in place first. Take the time to talk to a local real estate attorney and look over the landlord-tenant laws in your state. Arrange critical paperwork, like the specifics of your lease, in advance.
Once your documentation is in place, it’s time to start marketing your property! Write a listing description of the unit, including what amenities it offers and how much the monthly rent will be. Set clear expectations, such as no smoking, in your listing. Then leverage all-in-one landlord software to publish your post across the web, and interested tenants will reach out.
When a prospective tenant reaches out to you, screen them carefully to ensure they’ll be a good fit. Once they move in, it’s official – you’re a landlord!
TurboTenant landlords publish their listings to dozens of listing sites and receive 28 leads per listing on average. Our landlords can also request credit, criminal background, and eviction checks in less than five minutes - free for the landlord.
Did You Know?
Learn how TurboTenant works.
Strategy Two: Become a Flipper
Flipping houses is an investment opportunity that gives some beginners pause, and for good reason: it can be lucrative, but it pays to know how to do most of the work yourself!
If you love the smell of fresh 2x4s and the feeling of swinging a sledgehammer, flipping properties could be perfect for you. Just bear in mind that your first flip is likely to be more educational than profitable. That said, Rocket Mortgage recommends that aspiring flippers:
- Know the neighborhood. Research your local real estate market to find the right location for your investment property. Once you find a property you’re interested in, bring in a general contractor and home inspector to understand the scope of work needed to boost the resale value.
- Budget using the 70% rule. As Rocket Mortgage states, “This rule states that an investor should only pay 70% of the after-repair value (ARV) of a property minus the necessary repairs. The ARV is what the home is worth after it has been fully renovated.”
For example, let’s say the ARV of a home is $300,000 and it needs $50,000 in repairs. 70% of the ARV is $210,000, then subtract $50,000 for necessary renovations. Ideally, you wouldn’t pay more than $160,000 for that property. - Assess your skills. If you have a background in construction, real estate, or design, you’ll be ahead of the house-flipping game. If not, proceed with caution. Either way, don’t feel like you should go this journey alone; assemble a team that includes your lender, real estate agent, insurance agent, and contractors (as needed).
- Finance your project. If you’re not swimming in gold a lå Scrooge McDuck, you’ll want to get pre-approved for a loan. Just note that you’ll be most successful if you have a good credit score and can pay up to a 20% down payment.
- Decide on and purchase your property. Rocket Mortgage notes that this step is one of the most challenging parts of a flip, given all that you have to consider. Beyond the purchase price now, you have to think about the potential resale value to maximize your profit margin. That’s why having a real estate agent and seasoned contractor on your team is so important: they can help you find a suitable property and understand how much it could go for (and with what repairs).
- Build sweat equity. Remember how we said it pays to be handy? “Sweat equity” refers to the unpaid labor newer flippers often put into their project to keep costs low. Don’t be afraid to get dirty!
- Flip the property. Once the dust settles on your final repair, it’s time to resell the house. But don’t think about slowing down: you’ll lose money if the house stays on the market too long. Aim to make your repairs quickly (and well), then sell the property post haste. Call your real estate agent to list the house and determine the best resale price.
Congratulations, flipper!
Strategy Three: Join a Real Estate Investment Trust (REIT)
REITs are companies that own (and often operate) commercial real estate, like apartments, office buildings, malls, and hotels. Due to their past performance of paying large and growing dividends, Nerdwallet notes that REITs are growing in popularity today – though they were “created by Congress in 1960 as a way for individual investors to own equity in large-scale real estate companies.”
REITs must meet specific standards by the IRS, including that they return a minimum of 90% of taxable income via shareholder dividends each year, which allows them to pay no corporate taxes. The lack of taxes enable REITs to purchase real estate more cheaply than non-REIT companies, allowing REITs to grow bigger and pay out more to shareholders over time.
If you’re looking for passive income, this strategy is the most passive on our list – so let’s jump into it!
Getting Started With REITs
To start investing with REITs, you’ll need to open a brokerage account. From there, you can buy and sell publicly-traded REITs just as you would in the stock market. Nerdwallet recommends keeping your REITs inside a tax-advantaged account like an IRA to defer paying taxes on the large dividend distributions.
It’s worth noting that some REITs aren’t offered on an exchange and instead must be purchased from brokers who participate in public non-traded offerings, like those of real estate crowdfunding sites. These are called public non-traded REITs, and they are challenging to value. The U.S. Securities and Exchange Commission (SEC) monitors these exchanges along with all REIT activity, but public non-traded REITs are illiquid, often for eight years or more. Non-traded REITs can also be significantly more expensive, costing $25,000+ and could be limited to accredited investors, Nerdwallet says.
The Bottom Line
Investing requires risk, but investing in a safe asset class like real estate can diversify your portfolio and increase your cash flow in the long run. Just remember to do your research before arranging any deals, ask for help when you need it, and don’t invest more than you can afford to lose.
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