Content of the material
- Step #1 Identify Your Financial Stage
- Take Advantage Of Real Estate Investing
- Getting started with real estate investing
- How to Make Money in Real Estate Investing
- Appreciated Value
- Rental Income
- Step #7 Raise Cash For Your Down Payment Reserves
- Find the Right Location
- Top 10 Traits of Successful Real Estate Investors
- Books For Beginning Real Estate Investors
- People you need to have in your life as a real estate investor
- Real Estate Terms For Beginners
- Capitalization Rate
- Cash Flow
- Net Operating Income (NOI)
- Real Estate Investment Trusts (REITs)
- Real Estate Owned (REO)
- Return On Investment (ROI)
- Beware of High Interest Rates
- Understand The Risks Of Real Estate Investing
- Motley Fool Returns
- 2. Do the math
- Trade or flip real estate
- Pros of flipping real estate
- Cons of flipping real estate
- Bottom line
Step #1 Identify Your Financial Stage
Real estate investing is simply a vehicle to improve your finances. So, before we get into the details of real estate, let’s think about your overall financial picture.
Most new investors eventually want to reach financial independence. You can think of this like the peak of the mountain where your living expenses are all covered by income from investments.
The fundamentals of climbing this mountain are the same whether you invest in real estate or anything else. To reach the peak of the mountain faster, you simply have to increase your savings rate. You can then invest those savings into your chosen assets, like real estate.
I’ll suggest a couple of specific real estate strategies that help with your saving rate in the next section. But for now, you need to identify where you are on the financial mountain. Are you at the very bottom (like I was as a beginner)? Half-way up? Or near the top?
My article Real Estate Investing For Beginners explains these wealth stages in more detail.
You want to know your current stage because depending on where you are, certain real estate strategies will make more sense than others. I’ll explain some of those strategies in the next step.
So, after thinking for a moment, decide which stage fits you best. Don’t worry, it doesn’t have to be perfect. Then let’s move to Step #2.
Take Advantage Of Real Estate Investing
Now that you know the ups and downs of real estate investing, are you ready to buy your first investment property? Investing in commercial properties, multifamily buildings or single-family homes can bring big returns if you do the necessary research. Whether you are still wondering if you should buy a house, wondering how to buy a house or you are ready to apply and buy, investing in real estate could boost your income.
Getting started with real estate investing
If you’re brand new to the world of real estate investing, you’ll find that there are many possible paths to take.
The simplest form of real estate investing is buying a home for yourself to live in. While many don’t think of this strategy as ‘investing,’ a primary home is actually a great investment in that it will generally increase in value and boost your net worth substantially over time.
Buying your own home is a great way to invest in real estate with relatively little money because you can often purchase with as little as 0-3% down. Plus, when you’re ready to move or upsize later on, you can either sell your house — typically for a profit — or keep it and rent it out, earning yourself passive income.
Jon Meyer, licensed loan officer and The Mortgage Reports loan expert, says that this is potentially the best way to get into rental property ownership, adding “you can get better rates and terms, and potentially make more money in the long run.”
But let’s assume you’ve already explored primary homeownership. Now you’re looking for different ways to invest in real estate and grow your net worth. In that case, here are a few strategies worth looking into.
How to Make Money in Real Estate Investing
You can make money from real estate properties two ways: appreciated value and cash flow from rental income.
Despite the real estate market’s ups and downs, most property values increase over the long term. In fact, home values have risen almost 50% over the past decade.2 That increase in value is called appreciation.
The key to buying real estate that appreciates is location, location, location! You can sell a mobile home with a 5-acre yard for $150,000 in Kentucky. But put it on a lot the size of a postage stamp on a beach in Malibu—and suddenly it’s worth millions!
So consider location carefully. Buy in an area where values are rising. Look for property near water or with a great view. And look for good bones. If a house has a great floor plan but the carpet is ugly as sin, buy it! Flooring isn’t too complicated—you can replace it and earn the money back when you sell.
But if you buy a house where you have to walk through two bedrooms to get to a toilet, you’re in trouble. Bad architecture doesn’t appreciate. After all, nobody wants a house that looks like a toddler drew the blueprints!
Owning and renting out property is a great way to make money without a lot of effort. Other than lining up renters and paying for (or doing) repairs and maintenance, your part is pretty hands off. There’s even less for you to do if you hire a property management company. (That’ll cut into your profits but could be worth it if you want the help.)
Keep in mind, dealing with renters can be frustrating and time-consuming. So do your homework and make sure they’ll keep your property in great condition. And always make your tenants sign a written lease. Then there’s no question if there’s a disagreement—everything’s on paper.
You should hire a contract lawyer to review your lease too. They’ll help make sure you’ve covered all your bases. Plus, if you ever need to evict a tenant who’s causing trouble or missing rent, you’ll already know an attorney. Eviction expenses can pile up quickly, though, so make sure you have your emergency fund fully stocked.
Step #7 Raise Cash For Your Down Payment Reserves
Real estate investing is a business that allows you to use other people’s money to help you move forward. But you shouldn’t count on building your entire business with no money down. Even if you use the highest leverage scenarios, like 0% down VA (Veterans Administration) loans, you will still want to save cash for reserves.
So, how much cash will you need? And how do you raise it?
The amount of cash needed will depend upon your strategy (Step #2), the prices in your target market (Step #3), and your property criteria (Step #4). You can also ask your lending team member (Step #5) how much down payment you’ll need for certain loan programs (Step #6).
For example, let’s say your financial priority is increasing your savings rate (wealth stage #3). You decide to use the house hacking strategy to purchase a duplex for $150,000. You may be able to find an FHA loan with a 3.5% down payment. So, you’ll need $5,250 (3% of $150,000) for your down payment and perhaps another $3,000 for your closing costs. But you may also need more cash for property improvements and reserves for a rainy day. So, let’s say you need another $10,000 for that.
Your total cash in this VERY low down payment scenario would still be $18,250 ($5,250 + $3,000 + $10,000). How do you find that money? Here are a few ideas:
- Save – I know this is obvious. But sometimes you just need to make investing important, work for extra income, cut other expenses out of your life, and be patient until you have saved the money. No short cut here, but it works.
- Sell – Can you sell your car and buy a less expensive one? Do you have expensive toys that you can sell until later in life when you’re financially better off? What about selling a big home with a lot of equity if you’re willing to downsize? Do you have collections of junk in your attic/basement/garage that needs to go away? Selling is one of the safest and most logical ways to raise funds.
- Borrow – This one you need to be careful with. I am personally comfortable borrowing safely against long-term assets like rental properties. But personal loans, credit cards, or lines of credit used for down payments can be dangerous if things go badly. The problem is the discipline of cash flow. If you borrow $10,000 to invest, will the investment produce enough to pay the interest? If not, you’ll need to come out of pocket. Just make sure you can handle that extra loan payment in a worst case scenario.
- Partner – Partnering is like sharing a delicious cake. What if someone offered me a rich, chocolate cake (my favorite!) for 50% off? But what if I I didn’t have the money to buy it? Wouldn’t it make sense to find a friend who DOES have that money and split the cake with them? Now we both win. That is partnering in a nutshell. It has worked very well for me over the last 15 years. Just make sure to communicate clearly up front (in writing), and only work with people you like and trust.
Now that you have your cash and financing lined up, let’s move to Step #8 where we find good deals!
Find the Right Location
The last thing you want is to be stuck with a rental property in an area that is declining rather than stable or picking up steam. A city or locale where the population is growing and a revitalization plan is underway represents a potential investment opportunity.
When choosing a profitable rental property, look for a location with low property taxes, a decent school district, and plenty of amenities, such as restaurants, coffee shops, shopping, trails, and parks. In addition, a neighborhood with a low crime rate, easy access to public transportation, and a growing job market may mean a larger pool of potential renters.
Top 10 Traits of Successful Real Estate Investors
As a first-time real estate investor, it can be easy to begin to doubt yourself and wonder if you really have what it takes to be successful. However, no success story begins with perfection. As the real estate mogul Warren Buffett says, “the most important quality for an investor is temperament, not intellect.” it is entirely possible to learn from experience and reinvent yourself time and again. The following describes some common traits of successful real estate investors that you can start to channel today:
Books For Beginning Real Estate Investors
If you are interested in adding a few books to your current reading list, there are numerous titles on real estate investing. These books can provide you with information on the basics of investing, industry terminology, key strategies, and more. Here are a few books to help you get started:
The Book on Investing in Real Estate with No (and Low) Money Down by Brandon Turner: The goal of this book is to start thinking like an investor. Turner’s insights help readers learn how to use other people’s money to make deals and how to make the most out of your finances.
Building Wealth One House at a Time by John Schaub: This book is all about methodology. If you are interested in learning how to buy properties, earn money, and replicate the results this is a great read. With over 30 years of experience in real estate investing, Schaub’s book is a great starting point for beginners.
The E-Myth Real Estate Investor by Michael Gerber This is the backbone of real estate investing. The E-Myth teaches beginners to look at investing from a new perspective. The book providers an overview of strong business practices and investing frameworks to help you get started.
The Real Estate Rehab Investing Bible: A Proven-Profit System for Finding, Funding, Fixing, and Flipping Houses Without Lifting a Paintbrush by Paul Esajian: If flipping houses is the strategy that interests you the most, consider starting here. Esajian outlines the best systems for slipping houses for profits and provides advice on how to fund each deal. The book contains important formulas for analyzing deals that investors of all experience levels will find valuable.
The Real Estate Wholesaling Bible: The Fastest, Easiest way to Get Started in Real Estate Investing by Than Merrill: Wholesaling is often thought of as the best strategy for beginner real estate investors. This book outlines how you can turn this beginner-friendly side hustle into a full blown real estate business. Merrill’s advice includes advice on how to find funding for beginners and how to break into tough markets.
To learn more about the best books for beginner real estate investors, read our full run-down here.
People you need to have in your life as a real estate investor
As a prospective real estate investor, it is important to have a solid team of trustworthy professionals around you. Whether you are wholesaling, house-flipping, or aiming to create a long-term investment as a buy-and-hold investor, your team can help you identify your blind spots and make the difference between your success or failure as an investor.
Here are the people a real estate investor needs on their team:
- A realtor or real estate agent is important to help locate properties to buy and to assist you when it comes time to sell. They can help you with local knowledge of property values and neighborhood trends.
- Mortgage brokers search for the best financing options when buying a property or refinancing it. Because a mortgage broker does not work for one bank, they have the ability to show you rates and financing programs from multiple banks to help you secure your best deal.
- Escrow officers and title companies are part of the buying and selling process. The escrow officer collects information from the buyer and seller and distributes the money when the transaction is complete. Title companies search for liens on the property to ensure you don’t end up owing money for a loan or tax lien once you close.
- Real estate attorneys can help you structure deals and review contracts. Additionally, they’ll be in your corner if you have a dispute relating to a property and need legal advice.
- An accountant can review your records, prepare taxes and other filings, and provide guidance on how actions may affect your taxes. Make sure you work with an accountant who is experienced in real estate.
- An insurance agent or insurance broker can help you understand your risks and craft protection that will cover you, your property, and your tenants while staying within your budget. Agents typically work for one insurance company, while brokers can shop your needs to multiple insurance companies to find the best deal.
- A contractor can manage the rehab project and ensure all the necessary repairs are made. Some real estate investors do some or all of the rehab work themselves; others have a contractor handle everything. Which is best for you will depend on your skill, budget, and time frame. Also, consider finding a handyman for small jobs that need to be done quickly as many contractors schedule availability weeks ahead of time.
- Property managers serve as a buffer between you and the tenant. They find tenants, collect rents, coordinate repairs, and periodically inspect your property. Most property managers charge 10% of the rents collected. Although you don’t have to hire a property manager or property management company, many real estate investors find it to be a time-saving and cost-effective choice.
We suggest you interview several candidates for each position on your team. Discuss what their ideal client looks like, how much they charge, and their thoughts on how you can best work together. Don’t always go with the lowest-cost option. As the saying goes, sometimes you get what you pay for.
Once you’ve found the right person, ask them for referrals for other spots on your team. Most likely, they will know several good candidates you can interview.
After your team is complete, don’t stop networking and meeting others who might be a good fit. You never know when you’ll need to replace a teammate, and it is a good idea to have a Plan B, C, and D in mind if you want to be successful in real estate investing.
Real Estate Terms For Beginners
If you have started to conduct any research at all, one of the first things you will have noticed is the abundance, perhaps even excessiveness, of confusing jargon and acronyms. Although there are many, it is imperative to know at least the basics of real estate terminology so that you can be taken seriously by other professionals. Here are some terms to help you get started:
Capitalization rate, or “cap rate” for short, is a formula used to calculate the value of an investment deal. Expressed as a percentage, the cap rate is always calculated using the current market value of a property.
Cash flow is a concept used in business and personal finance that describes the inflows and outflows of cash. For example, a rental property investor will often calculate the monthly cash flow, which is all the rental revenue generated by the property, minus all expenses. Investors will search for properties that will provide a positive cash flow every month.
Net Operating Income (NOI)
Net operating income, or NOI, goes hand-in-hand with the cash flow calculation. Once you have subtracted all of the monthly expenses from the monthly rental revenue, the leftover dollar amount is the net operating income. In layman’s terms, this is the ‘profit’ portion of the operation.
Real Estate Investment Trusts (REITs)
Real estate investment trusts (REITs) are firms that typically own and operate portfolios of income-producing real estate properties. Some REITs will specialize in specific niches, such as residential or commercial. Investors who prefer to take a more passive role in real estate investing might find REITs to be great options.
Real Estate Owned (REO)
Real estate owned, or REO, properties have been reclaimed and owned by lenders, typically banks. After a property has been foreclosed upon, a lender will usually remove liens and expenses from a property so that it can be sold faster. REO properties provide a great option for investors looking to purchase property for below market value.
Return On Investment (ROI)
The most common way to measure an investment deal’s relative success is the return on investment (ROI). ROI is determined by taking the ratio between the net profit and how much capital was used for the investment. The higher the ratio, the better the gains.
[ Do you have what it takes to run your own real estate business? Register for our FREE real estate webinar, where you can learn how to replicate successful business systems from expert real estate investors. ]
Beware of High Interest Rates
The cost of borrowing money might be relatively cheap in 2021, but the interest rate on an investment property is generally higher than it is for a traditional mortgage. If you do decide to finance your purchase, you need a low mortgage payment that won't eat into your monthly profits too much.
Mortgage lending discrimination is illegal. If you think you've been discriminated against based on race, religion, sex, marital status, use of public assistance, national origin, disability, or age, there are steps you can take. One such step is to file a report to the Consumer Financial Protection Bureau or with the U.S. Department of Housing and Urban Development (HUD).
Understand The Risks Of Real Estate Investing
You have to understand the risks before making the investment. One of the key risks involved is buying a property and having to sell it at a significantly lower price due to market conditions or other conditions outside of your control.
Another common mistake includes the timing of purchases and sales may result in substantial losses or losing out in a deal or the market picking up ahead of your prediction forcing you to buy the same product that was available for a bargain at a premium.
If you’re owning the rental, maintenance and other large expenses can also be a challenge.
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2. Do the math
Not all real estate automatically makes money. Mehta says every investor needs to "become an expert at calculating cash flow and realizing equity potential," which he learned about at his job at Sotheby's.
Cash flow in real estate is the difference between a property's income and any expenses. You might think of this as rent minus the mortgage payment, but that is not the only cost you need to account for in a rental property, for example. There are also operating expenses and savings for future improvements and emergency repairs, Mehta says.
Mehta also considers how much more value he can add to a property through physical improvements. That could include updating the kitchen or remodeling the bathroom. Mehta and his brother are currently adding a second story and unit in the backyard of one of their properties, which he estimates will add around $1.5 million to the total value of the property.
Trade or flip real estate
After you’ve been in the real estate investing game for a while, you get to know what you’re doing. For investors ambitious enough to embark on construction projects, trading or flipping real estate can bring in big returns in just a few months.
Here’s how it works: an investor buys an undervalued residential property, renovates it, then sells it at a higher price.
It’s possible to be a pure “property flipper” who leaves their purchase unrenovated and waits for the market to improve. This strategy is also known as “hold and resell.” Properties should already be in good condition and located in markets that are on the upswing.
Selling isn’t guaranteed, of course, and you’re still on the hook for the mortgage if you can’t get tenants or buyers.
“House flipping” is best for seasoned real estate investors who know how to hedge their bets with the local market. You should be able to:
- Assess a property’s current AND potential value.
- Estimate repair costs as accurately as you can (this isn’t easy to do!).
- Tap into cash reserves if you need more than you thought.
- Land on a price that hits the “sweet spot” of being attractive to buyers while making you a profit.
Pros of flipping real estate
- These are often short-term projects so you can see a return fairly quickly.
- If you time everything correctly, you can make a large profit.
Cons of flipping real estate
- You need to purchase a property (so count on at least a 20% down payment).
- You need to DIY the renovation or hire a company, which can be costly.
- You need to really know the market, or else you could end up losing money on the deal.
Education is a good thing, but don’t fall into paralysis through analysis by reading endless real estate listings. The perfect deal rarely happens, and if you wait for the perfect deal, then you may be waiting for years to make your start in real estate investing.
Here’s a quick checklist to get you started toward your first real estate investment:
- Decide whether you want to be a flipper, buy rentals, or do wholesale deals.
- Determine which type of properties do you want to focus on: raw land, residential, or commercial.
- Figure out where you want to invest. Remember, you don’t have to invest in the same place you live.
- Create your investment strategy and network to find potential properties.
- Set up a plan for how you fund your investments.
- Set a timeline for when you want to complete your first deal.
- Think about what outcome would make you happy with your first real estate investment.
The best way to get started is to learn a little and execute, then learn some more and make your next move. And don’t be afraid to ask for advice along the way. If you’ve got questions, come join us in our BiggerPockets Fans – Real Estate and Investors Facebook group. Your friends in the FinanceBuzz community are always here for you and happy to help you make a successful start and build wealth over time!
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