Content of the material
- Should I Start a Real Estate Investment Business?
- Should I Start an LLC?
- Building Your Team and Securing Your Future
- Calculate Operating Expenses
- Crowdfunding platforms
- Pros of crowdfunding platforms
- Cons of crowdfunding platforms
- Step 5: Take the next step
- Buy a house
- Buy a rental property
- Invest in Real Estate Investment Trusts (REITs)
- The Wholesale Formula
- A word of caution about Zillow
- Know Your Legal Obligations
- Legal Issues to Consider
- Legal Business Entity
- Investment Strategy
- Real Estate Financing
- Invest Smarter with The Motley Fool
- Trade or flip real estate
- Pros of flipping real estate
- Cons of flipping real estate
- Property flipping
- Step #8 Create a Plan to Find Deals
- Marketing Budget
- Marketing Campaigns
- Free & Low Cost:
- Intermediate & High Cost:
- Decide on a Budget & Marketing Campaign(s)
- The different types of real estate investing
- Buy, Rehab, Rent, Refinance, Repeat (BRRRR)
- 4. Play it cool
Should I Start a Real Estate Investment Business?
If you are looking for a business you can start from home that will put your problem-solving skills to the test and provide the potential for a high return on investment — a Real Estate Investment business could be exactly the business opportunity you’re looking for. Real Estate Investment strategies vary depending on the type, offering a different strategy for your unique skill set and the amount of funding you have available.
Should I Start an LLC? Starting an LLC offers personal liability protection and favorable tax treatment making it a great business structure for your new business. You can also find out if an S Corp is the right tax structure for your real estate investing business.
Building Your Team and Securing Your Future
Managing 3-5 rental homes by yourself will require a lot of patience, frustration, manual labor, and stress. However, it can be done if you are willing to put in the time and energy required. However, once you have acquired 5 rental homes, the amount of time required to manage your properties will be beyond what you are individually capable of. At this point, to scale your business, you will need to begin assembling your team.
The first logical member of your team is a property manager. You can either hire this person, or hire an agency to manage it for you. Most property managers will take a percentage of the gross rental rate, so you will need to factor that into your monthly cash flow figures. But they generally pay for themselves as a property manager will manage the leasing and marketing of your property, rent collection, field phone calls from tenants, and schedule repairs and emergencies.
The second member of your team is a handyman or licensed contractor. All homes will break down, and depending on the tenants you house, there may be more damage than not. Your handyman or licensed contractor will be able to handle all of the repairs and ensure your assets are protected and well cared for so they can produce income for years to come. Once you reach a certain level in your business you will also want to contract with an attorney and an accountant to help you manage your business.
Calculate Operating Expenses
Operating expenses on your new property will be between 35% and 80% of your gross operating income. If you charge $1,500 for rent and your expenses come in at $600 per month, you’re at 40% for operating expenses. For an even easier calculation, use the 50% rule. If the rent you charge is $2,000 per month, expect to pay $1,000 in total expenses.
An increasingly popular option for small-time real estate investors, crowdfunding platforms are passive investments similar to REITs. But instead of going through a trust or corporation, investors pool their assets and match with interested real estate developers or sponsors. There are platforms for commercial and residential real estate.
Since these investments are illiquid — you can’t sell them easily — and depend on the variables of the real estate market, they can be riskier than REITs. But they can also get you dividends on properties you wouldn’t be able to access as an individual. You might have to wait longer for returns — most crowdfunding deals require several years of commitment — but the returns tend to be pretty high.
Read more: Real Estate Crowdfunding: Should You Invest?
Pros of crowdfunding platforms
- You can own real estate without purchasing property yourself.
- Returns tend to be on the higher end.
- You can invest in commercial and residential real estate.
- They often have a lower cost requirement to start investing.
Cons of crowdfunding platforms
- They’re not liquid investments (aka, they’re not easily sold).
- They’re long-term investments.
- They can be risky if a real estate deal goes under; you may lose some or all of your investment.
Step 5: Take the next step
Let’s say you made your very first real estate investment and totally crushed it. The bug bit you and you want more! Well, lucky for you, there’s always more opportunities to be had. Check out where to go when it’s time to make the jump from beginner to intermediate.
Buy a house
Whether it’s a bigger, better home you’re able to buy from the money made renting out your former home, or if you’ve saved up enough for your first home purchase, you’ll be building equity for your future.
Buy a rental property
This can be accomplished in two ways: investors can purchase a house exclusively to rent out to tenants, or they can purchase a multifamily property where they live in one unit and rent out the others, also known as house hacking.
The former option requires at least a 20% down payment and an investment mortgage loan, which comes with higher interest rates than primary owner-occupied mortgages — up to 0.5% to 0.75% more.
The latter option, depending on the price of the home, can be more affordable because it can be purchased for as little as 3.5% down with a FHA loan because it also serves as the buyer’s primary residence.
Invest in Real Estate Investment Trusts (REITs)
REITs are companies that own or finance income-producing real-estate, which pays out 90% of their taxable income to shareholders. Investors can purchase individual company stock through a mutual fund or exchange traded fund (ETF) of the stock market. ETFs do not require a $3,000 minimum investment, and the minimum investment for private REITs can range anywhere from $1,000 to $25,000.
REITs perform well for long-term dividends but are not good short-term options.
The Wholesale Formula
Many real estate investors start out as wholesalers. It has the lowest barriers to entry and does not require a large amount of capital. As a wholesaler, your job is to find deals that other investors may be willing to pay you a fee to buy. There is some very important but straightforward math to understand when it comes to wholesaling.
When you’ve found what you believe to be an ideal property for you to wholesale, research the recent sales of comparable properties in the area. These properties are more commonly known simply as comps. If you think you can immediately find someone to take over the contract on a property without doing renovations, then find the lowest comp and offer the owner of the property you’re interested in 30% under that price. The 30% discount gives you room for negotiation, builds in a cushion to cover your fees, and increases your shot at a profit.
So, for example, if the lowest comp in the neighborhood is $100,000, a wholesaler should look to have an all-in cost of $70,000 for the property. Depending on the condition of the property and estimated repairs, your offer price may go higher or lower. If you estimate the property will need $15,000 in repairs, then the ideal purchase price would be $55,000 or less because we have to subtract the $15,000 in repairs from our $70,000 top budget limit.
Keeping your costs down can make the people you’re potentially selling to happy and excited to do business with you because they’ll potentially get a better deal from you than someone else. Additionally, a lower purchase price makes it easier to refinance the property (to get cash for another investment) or to sell and make a profit. Finally, if you’re flipping the property, keeping your costs down helps to cover your selling expenses while making you a lot of money.Remember: When you are evaluating deals, fall in love with the numbers, not the house.
A word of caution about Zillow
One of the most popular real estate websites is Zillow. Zillow offers similar search functionality as the MLS, such as narrowing down by property type, number of bedrooms and bathrooms, size of the home, lot size, and price.
Zillow also provides a proprietary Zestimate of the value of a property, but this estimate may vary widely in comparison to actual market values. For example, Zillow may provide a Zestimate of $300,000, yet the home is only able to sell for $250,000 based on market conditions and the prices of similar properties in the area.
If you went by the Zestimate instead of doing your own research that could really throw off your calculations on a deal. This could result in you not making a profit or even taking a loss. The takeaway is that it’s always best to do your own math and research.
Know Your Legal Obligations
Rental owners need to be familiar with the landlord-tenant laws in their state and locale. It’s important to understand, for example, your tenants’ rights and your obligations regarding security deposits, lease requirements, eviction rules, fair housing, and more in order to avoid legal hassles.
Legal Issues to Consider
When starting a real estate investment company, there are a few key legal issues that you must deal with from day one.
Legal Business Entity
While very small real estate investment companies sometimes have no formal legal entity, it is important to protect your personal assets by incorporating once you begin to grow—and you’ll even better minimize your risk by incorporating earlier rater than later. The most common legal business entity for a real estate investment company is an LLC. An LLC provides you the flexibility to change the business as the market fluctuates and your needs change, and there are fewer regulatory and reporting requirements.
A clear investment strategy will affect what legal issues you will need to consider and even what type of business entity will best protect your interests. This of course includes deciding whether you plan to focus on investing in properties long-term or trading them quickly, but it also must include smaller considerations, such as whether you plan on purchasing single or multi-unit properties and commercial or retail spaces.
Real Estate Financing
Starting a real estate investment company often requires significant upfront investment—and it can be difficult to know the best way to get financing. It may be prudent to consider a range of financing options, including loans, partnership with other investors and even short-term financing.
Most investment properties must have insurance—and the right kind. That’s why it is vital to insure properties correctly from the day the deed passes into your company’s control. Make sure to do your research and talk to an insurance agent or a real estate attorney to discuss the type of coverage you may need. It’s also important to limit your liability beyond what can be reasonably covered, by making it clear in tenant contracts what you can be held liable for and what is their own responsibility.
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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.
By now, everyone knows about property flipping. But what you see on television isn’t the whole picture of what’s involved in successfully purchasing a residential property, fixing it up, and selling it to someone who will love it. You’ll need substantial capital to cover labor and supplies, as well as a construction crew or subcontractors you can trust. You also will likely be subjected to multiple inspections, all of which you must pass before being allowed to market your property.
Construction loans are possible, but they are often difficult to obtain as a first-time flipper due to experience requirements and other bank-imposed terms. However, in the current real estate market, a flip that’s priced accordingly and will appraise for the asking price may not sit very long at all. Be prepared to make additional repairs that the buyer’s inspector finds. No house is perfect, no matter how many people have been working on it.
In a worst-case scenario, your flip house can be converted into a rental property. This isn’t ideal, of course, and it will take a lot longer to recover your investment, but it can be a solution if the property can’t find a buyer. Sometimes the market turns after you’ve started a project, and the only option you have is to keep going forward. Always have an exit strategy when getting into property flips.
Step #8 Create a Plan to Find Deals
Good deals don’t just land in your lap. Finding good deals is more like a treasure hunt. You have to turn over dozens and dozens of stones before you find a hidden gem.
Periods like 2008 – 2011 during the Great Recession are the exception to this rule. The treasure hunt for real estate deals was much easier then. Warren Buffett in his 2016 letter to Berkshire Hathaway shareholders described this period nicely:
Every decade or so, dark clouds will fill the economic skies, and they will briefly rain gold. When downpours of that sort occur, it’s imperative that we rush outdoors carrying washtubs, not teaspoons.
We should always have our washtubs ready for periods when “it rains gold.” But what about the rest of the time? During normal economic times, you have to work hard and create a plan to bring good deals to you. And you have to stay disciplined with your investment criteria (Step #4) so that you don’t succumb to the fever of a hot market.
You can learn the 17 methods I used to buy 33 deals in one year inside my popular course “Real Estate Deal Finder” (and get 30% off by using the coupon code THIRTYOFF-DF-REI101 at checkout.
My recommended plan to find real estate deals includes two sub-steps:
- A budget for marketing
- Marketing campaigns to bring prospective deals to you
If you have a $0.00 budget for marketing, you will have to get creative and plan to spend more personal time instead. It’s more challenging this way, but it’s not impossible. With approximately $500 per month, you probably have enough to create workable marketing campaigns. And for $1,000 per month or more, you can really set yourself apart within your market.
Investments in marketing have always been one of my best returns on investment as an entrepreneur. But you have to choose those dollars carefully with the right marketing campaigns.
There are many possible marketing campaigns to choose from. And because marketing is an inexact science, the campaigns that are effective change like the wind. So, I recommend carefully testing different campaigns, and then stick with what works.
Here is a list of some of the most effective campaigns with my brief explanations. They are organized by cost:
Free & Low Cost:
- MLS Campaign – Find a buyer’s agent who will send you leads based upon your criteria (see Step #4). Using the MLS (multiple listing service), these agents can set up automatic emails that will reach your inbox any time a new or reduced property hits the market. Warning – move fast on these deals (like this minute, not hours or days)! Everyone else is doing this campaign, too.
- Referral & Networking Campaign – Tell everyone you know to send you leads on prospective properties. Talk to friends and family, but also reach out to professional contacts like your CPA, attorney, financial advisers, real estate agents, property managers, etc. Attend networking meetings at landlord associations, REIAs (Real Estate Investment Associations), and other real estate and business-related meetups. Get business cards and print flyers with your investment criteria so that people remember you.
- Drive (or Walk) For Dollars – Regularly walk or drive your target neighborhoods. Look for FSBO (For Sale By Owner) signs, For Rent signs, vacant or run down properties listed with agents, and vacant properties with no signs. Call numbers on signs to talk to owners or agents when possible. For vacant properties, talk to the neighbors when possible to try to get in touch with the owner. Also, write down the vacant house address, and later look up the owner contact information. You can find the mailing address using your local online tax assessor records, and you can sometimes find phone numbers using whitepages.com or similar online phone listings. You can either call or send them a letter in the mail to ask about buying their house.
- Find Wholesalers & “Bird Dogs” – Some people are in the business of finding deals for other investors. Wholesalers typically buy (or control) deals, and then quickly sell them for a small markup to other investors like you. Talk to these wholesalers, get on their mailing lists, and be proactive with them. A bird dog is similar, but he or she simply sends you leads. You then get to follow-up to turn the lead into a deal. The bird dog will likely need to have a real estate license in order for you to legally pay them a finders fee.
- Cold Calls – For those who can handle 50 rejections for every 1 promising phone call, this could be an effective method. You can search the online classifieds or local paper to find for sale by owner and for rent by owner listings. Then just call listings one by one and ask questions. Few people will do this, so you may find some gems that others pass up.
- Classified Ads – You can advertise your service (buying real estate) through free or low costs classified ads online or in local print publications. Not every avenue will work, but if they’re low cost or free, try as many as possible and get your information out there.
Intermediate & High Cost:
- Direct Mail – You can send letters or postcards to various lists of property owners. Finding these lists is sometimes as easy as paying a list company list company or local service. Other times it’s a wild goose chase. Don’t be discouraged if it’s hard. That’s actually a good thing because fewer investors will choose to follow up and you will (right?!). Some lists that have worked well for me in the past are:
- Non-owner occupied houses (aka absentee owners)
- Owner-occupied houses with equity (long-time homeowners)
- Multiunit property owners
- Eviction landlords (landlords who have recently filed or evicted a tenant)
- Expired listings (owners whose real estate listing recently expired)
- Owners with delinquent property taxes
- Estates and probate properties
- Preforeclosure properties
- Website & Social Media– A website & social media channels (Facebook, Twitter, Linked-In, etc) are like an online business card that tells about your real estate investing business. Be sure to tell people who you are, what you’re looking for (investment criteria from Step #4), and how you can help. Most importantly make it easy for people to contact you.
- Car Signs – This means using magnetic or vinyl lettering on your car that says “I Buy Houses” or some other message with your phone number. This approach may be beyond your comfort zone, but it’s relatively inexpensive. I did it for 4-5 years when I started my business, and I bought at least 1 property per year because of it. So, it will work if you choose to do it.
- Yard Signs – When you are selling or renting a house, why not put an “I Buy Houses” sign next to your for sale or for rent sign if your local municipal laws allow it? Signs are an inexpensive and effective way to generate leads.
- Advertising – Use online ads like Google Adwords, traditional advertising like newspapers, magazines, and community bulletins, and even radio advertising (talk radio is best). The cost for this type of marketing can get out of hand fast, but if you’re careful about testing, it can be a great return on investment. I bought properties from both print and radio advertising for years.
Decide on a Budget & Marketing Campaign(s)
There are actually many more marketing campaigns that I could share (and you’re welcome to share your own favorites in the comments below). But these are effective options that will give you some choices to start with.
So, decide a rough marketing budget and choose one or two marketing campaigns you will start with. Then move on to Step #9 to schedule and prioritize your next actions.
The different types of real estate investing
Real estate investing is a broad term and there are many different types of investments to choose from. Each type of real estate investment has its own pros and cons, including the amount of time and money required to participate. So let’s take a look at some of your options so you can start to determine which real estate path you’d like to take.
Flipping houses is the art of buying a property for below market price and selling it for a higher price. In most cases, real estate investors purchase what’s known as a distressed property, spend money to fix it up, and then sell it to someone else. Distressed real estate is a property that has been neglected and is in need of repairs to bring it back to its potential value. These repairs can range from putting in fresh carpet to replacing a roof.
You make money flipping homes by understanding the future value of a property after all the repairs have been made. The new expected value after you’ve completed all your renovations and upgrades is what’s known as the after-repair value or ARV.
Your profit is the new sales price minus your selling costs, your purchase price, repair costs, and carrying costs such as utilities and insurance. As with any type of real estate investing, it’s important to do some critical math before you commit to a flip.Want to learn more about flipping? Take These 9 Simple Steps to Start Flipping Houses
Buy, Rehab, Rent, Refinance, Repeat (BRRRR)
The BRRRR method of real estate investing focuses on rental properties. Investors search for distressed and under-market properties that can be repaired or upgraded in order to appraise for a higher value upon completion. Under-market properties are those that are available at a discount compared to the properties around them. For example, while neighboring homes might be worth $150,000 to $200,000, the home you’re looking at is selling for $120,000 due to a divorce proceeding that requires a quick sale.
Once any repairs have been completed, the property is listed for rent. After a tenant has occupied the property, the investor refinances the real estate based on the new market value. This allows them to get access to cash and start the BRRRR process all over again with another property.
Money is made with the BRRRR method in three ways:
- The increase in value from the purchase price to the after-repair value creates capital appreciation. Capital appreciation is the increase in equity you receive by fixing up a property. Equity is the difference between the home’s value and its mortgage.
- There is cash flow to the investor after subtracting your expenses and mortgage payment from the rents collected. Your cash flow is the amount of rent you collect from your rental property each month. Expenses could include insurance, property taxes, property manager, and others.
- The property should appreciate in value over time at approximately the rate of inflation but this may vary based on the economy and local market conditions. Home values typically go up over time in line with inflation, but changes in the economy, such as a recession, may affect home prices. Additionally, local conditions, such as a factory shutting down or a new major employer opening up in your town, can have an impact on your home’s value.
If you get into wholesale real estate, it means you act as the middleman between someone who wants to sell and someone who wants to buy, then make a profit for their efforts. This is different from acting as a real estate agent because wholesalers are not required to have a license like a real estate agent because they technically own the pieces they are selling.
Land wholesaling is the wholesale process for raw land. Raw land is undeveloped and usually does not have any structures built on it. Raw land can be bought and sold quickly online from the comfort of your own home. It is generally cheap for the investor to purchase and maintain because property taxes are minimal and there are no structures. Land wholesalers look to quickly double or triple their investment by reselling the land they purchase.
Residential wholesaling is focused on single-family residence, condo, townhome, or multi-family homes (up to four units). The targeted homes are generally distressed or undervalued compared to other homes in the area. The wholesaler enters into a contract with the seller to buy the home, then they locate a buyer who will purchase the contract from them for a fee. The buyer will then assume the contract and insert themselves into the deal in place of the wholesaler. Residential wholesalers typically do not ever take possession of the properties they have under contract. If they are unable to locate a buyer to assume their contract, they back out of the deal before losing their deposit.
Commercial wholesaling involves commercial buildings, strip malls, apartment buildings (of five units or more), office buildings, and similar properties. Wholesaling a commercial property generally follows the same path as residential wholesaling, but instead of finding an undervalued house, you’re looking for buildings that have low occupancy or below-market rents. The real estate developer or company you’re wholesaling to will see these properties as an opportunity to create value that they’re willing to pay you for.
4. Play it cool
Finally, just like with any other investment, you don't want to let your emotions get the best of you, Mehta says. Especially lately, the market has been red hot. But rushing buying decisions can lead to financial headaches down the line.
"If you are investing in rental property for the sake of a return on your money, be laser-focused on that," he says. Always be analytical. "The ROI should sufficiently outperform other investment options in order for it to be worth it."
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