For many people looking to have their money work harder for them, real estate investment has shown consistently positive results. They see returns on investment in stocks and shares. Merely leaving one’s money in a high-interest savings account, pale in insignificance when compared to the yields of the hard asset that is real estate.
The not so shrewd investor sees the real estate market offering two major investment models – commercial property and residential property. Naturally, there are several ‘subcategories’ that spring up when considering either of these. For example, suppose the investor is looking to rent out residential property and thus become a landlord. Will they use a management company to take care of every aspect of maintaining the property and keeping tenants happy? Alternatively, will they choose to do everything themselves on an ad hoc basis?
The latter may well lead to higher monthly profit, but it does come with a more significant number of headaches on the journey to real estate investment profit.
But this article is not concerned with the minute details of commercial or residential property investment. Developments in Fintech and Proptech, the umbrella terms for technological developments in the financial and property sector, mean that entry into the world of real estate investment has diversified to an incredible extent. In this article, we’ll take a look at what is fast becoming recognised as the top 10 ways for people to invest in real estate. It should be pointed out at this stage that these are being presented in no particular order. The real estate investor should carry out more extensive research or employ the services of an independent financial advisor or broker before entering into any significant investment.
Number One – Home Ownership
First-time buyers will approach the real estate market with their list of priorities. While the order of these priorities will differ, that list usually comprises the same basic requirements – size, location, décor, price and the speed at which they can move in. These are all familiar criteria for the house hunter.
But one other criterion that they should consider is the investment potential of the property itself. Most mortgages have a life span of 25 years. The annual appreciation rate of real estate is around 3% per year.
Let’s take a home purchased for £100,000 with a deposit of £10,000. That £10,000 is the equity in that property. After 25 years, that property will be worth something in the region of £210,000, and the mortgage will have been paid off; hence that entire sum is there in the form of equity for our investor.
Of course, there are a few caveats here. First is that many homeowners do remortgage at some point to raise capital, and this will naturally decrease the amount of equity that they have in the property.
Conversely, that figure of 3% is a conservative one at best. Certain developments can trigger a soaring in house prices. Take, for example, areas in East London. When the London 2012 Olympics was first announced in 2010, property values increased by an average of 26%, with some areas seeing an incredible 69% rise in value.
Granted, these figures represent the exception rather than the rule. However, they certainly do serve as a clear indication that homeownership should rank reasonably high as one of the top ways in which to invest in real estate.
Number Two – Buy to Let Properties
With the value of property appreciating year on year, one of the most popular forms of real estate investment is that of becoming a landlord. Wich means owning a property that is then rented out to the occupiers.
The business model is a fairly simplistic one, which is one of the main reasons that it is so incredibly popular.
The investor purchases a property utilising a ‘buy to let’ mortgage. The interest rates on these are relatively low. Lenders are happy to offer these mortgages on an interest-only basis. They are also not means-tested against the income of the mortgage applicants. The only figures that the investors have to show are the proposed rental figures on the property. As long as those are meeting – and in most cases, exceeding the monthly mortgage payment, then that mortgage offer will be agreed in principle.
After that, the value of the property will continue to rise. The difference between the rental payments and the mortgage can be the basis of a decent income for the investor.
Naturally, if it were that simple, then everybody would be doing it! The real estate investor needs to consider that the property could be vacant for months at a time, at which point he or she will be responsible for the upkeep of the mortgage payments.
It was mentioned at the outset of this article that keeping tenants happy can end up being a full-time job in itself. This could lead many investors to sell up and get out of the market altogether.
Property investment is a long term game. <any landlords won’t live close enough to the property to take care of any maintenance or repair issues. Hence they’ll employ the services of a management agent. It will, of course, come at an expense, but many landlords argue that it is a small price to pay for their peace of mind. If they are operating a portfolio of properties, that it would be unthinkable for them to look after them all by themselves.
Number Three – Fixing and Flipping
The concept of fixing and flipping is one which has been made all the more accessible by countless day time TV shows. The idea is simple – the investor purchases a property in need of renovation carries out those renovations and then sells at a profit.
On paper, it sounds easy enough, and the numbers often make for a compelling argument. Let’s take a property which has not been maintained at all within a decent street. We’ll keep the numbers simple here. The average three-bed semi in this street sells for £250,000. However, this home needs to have every room decorated, plus a new bathroom and kitchen. Local estate agents estimate that the property will need to have something in the region of £50,000 spent on it, and therefore put it on the market at £200,000.
Our investor comes in with an offer of £180,000, and it’s accepted. He or she then sets to work and recognises that it not necessary for the house to undergo a luxury makeover. It is to be modernised to a point where it’s attractive enough for its next owner/occupier, and so the total cost of renovations is £25,000.
The property goes onto the market in line with the rest of the street. As our investor is keen to sell quickly, she or he undercuts the market and puts it on at £240,000 and sells at that level.
Before taking all of the other fees into consideration, this is a profit of £35,000, which many real estate investors of this type will immediately use as the deposit on their next, higher-value project.
But flipping is not for the faint of heart. Without high-quality surveyors and home developers on their team, the investor can often find themselves caught by nasty and very costly surprises. It could diminish the profit in the project to such a degree that they will wonder if they ever should have bothered in the first place.
Number Four – Monetising Existing Space
Some readers will dismiss this particular notion as not really being an investment at all, and we are certainly not here to argue semantics. The success of residential property sites like Airbnb have turned many homeowners into small-time hoteliers, and many of them are enjoying a sizeable second income as a result.
However, the holiday market is not the only area where space can be at a premium. An unused garage can be converted into a studio flat or one to two-person office. A basement or attic could prove useful storage for a small business that can’t quite afford to warehouse but still need somewhere to store their inventory.
In the UK, planning permission is not required for a garden outbuilding, which is more than 20 metres from the rear of the house and which does not exceed 10 square metres in size. Whilst many home-based business owners have elected to construct ‘pods’ in their back garden for their own use, there really is no reason why a pod could not be constructed and then rented out.
The pods themselves are entirely self-contained, with power and broadband connectivity being served from the main house. Most don’t opt for any form of plumbing, but that is not to say that it cannot be done – it’s just that this will obviously have an effect on the overall budget for design and construction, so it’s easy enough to factor into the equation
Number Five – Real Estate Investment Trusts
Real Estate Investment Trusts or REITs for short, offer investors the opportunity to develop a vast portfolio of high-value properties without necessarily being able to afford them.
For the longest time, building one’s financial portfolio meant a split between stocks and bonds. However, thanks to an onslaught of technological advances in the financial sector – with perhaps Blockchain being the most significant development of all, things changed. In 2012 a shift in financial regulations meant that private market investment was made available to all, regardless of their net worth.
Now, companies managing REITs will embark upon what they refer to as real estate projects. In essence, this means that they buy an asset – be it commercial or residential, and then manage it in terms of tenancy agreements and maintenance contracts.
Investors then place their money with the REIT manager, just in the same way as they would invest in the stock market. The REIT management company act, in essence, like a broker – establishing what financial goals their investors have set and subsequently matching them with a portfolio of property which they feel is likely to offer their anticipated return.
And the use of the word ‘portfolio’ is vital here, as even an investment as small as £5,000 can see the investor holding stock in ten properties, both residential and commercial. As with the stock market, the investor can return shares to the market whenever deemed necessary. However, unlike the stock market, investors in REITs appreciate that they are entering the real estate investment market. Hence a speedy return on their investment is unlikely.
However, with annual returns averaging between 9 and 12%, REITs are fast becoming a very tangible way for more investors to make serious money in the real estate market.
Number Six – P2P Platforms
P2P stands for Peer to Peer, and the concept is very closely linked to REITs. Indeed, they share a lot of similarities. But the one crucial difference is that the investor has much more autonomy over where the money is invested.
Peer to peer lending came about as a reaction to the financial crisis of 2007 when a lot of banks put ever-increasing barriers to entry onto even the first rung of the housing ladder. It’s a process of lending and borrowing, which cuts out the middleman, in most cases, the banks. Borrowers have access to funds which they previously didn’t. Investors will be able to see a much higher return on their investment than if they’d just put their money into the bank.
On the surface, it would be easy to assume that borrowers are going to be looking at much higher rates. Also, it would seem that the whole model is more economically viable for the peer to peer investor. But this is not the case.
Banks are expensive to run. P2P lenders don’t have to concern themselves with acquiring property for branches, building maintenance, staff, office equipment, security contracts, etc.
Peer to peer lending is an online process. Websites such as Lending Club bring investors and borrowers together. The application can take a matter of minutes, and many applicants receive their funding within just three days. This is particularly useful if a speedy exchange of contracts is going to play a major part in the negotiations toward the final purchase price.
P2P lending is NOT for everyone – it serves the needs of those real estate investors who may struggle to acquire financing through more traditional means such as a mortgage. Remember, while the lending criteria from banks have become a little more relaxed since 2007, there are still a lot of people who need to consider alternative sources to finance the purchase of their first home. P2P lending can turn out to be just what they need.
Number Seven – Investing in Commercial Real Estate
Investing in commercial property is, at its core, no different from investing in residential property for the purposes of renting it out. You acquire a property and then find tenants whose monthly rental payments will cover the mortgage plus a healthy profit.
That would be just about where the similarities end. Commercial property investment is generally more complex and more expensive, and as a consequence, most investment in commercial property is carried out by institutional investors rather than individuals. The learning curve is a steep one, and if not approached with all due diligence, can prove to be a costly mistake for the would-be commercial property investor.
Naturally, with higher risk comes greater reward. For starters, commercial leases tend to start at the ten-year mark, which offers greater security for the investor. If the property houses a successful business, then its value is likely to appreciate at a much more impressive rate.
Take, for example, a successful restaurant in a busy pedestrianised high street. Such a business is not going to struggle to pay its rent and is going to want to hold on to its prime position for as long as possible. Should the owners eventually decide to sell up – perhaps due to retirement – then they will be vacating a highly desirable property. This means that new tenants can be found in no time, either level with, or perhaps even above market value.
Counter to that argument, of course, is the fact that many businesses will find themselves on hard times and will be unable to pay the rent. The property starts to become an expensive overhead and also starts to attract a stigma, with new potential tenants thinking of the premises as ‘bad luck’. How often have we seen a business open at a particular spot on the high street and thought to ourselves that they’ll be gone within a year, simply because nobody seems to be able to sustain a business at that particular location?
Number Eight – Master Limited Partnerships
When looking at Real Estate Limited Partnerships, also referred to as Master Limited Partnerships or MLPs, we, once again, find ourselves looking at the REIT model discussed earlier.
Much like a REIT, an MLP allows the investor the opportunity to split their funds across a managed portfolio of properties, trading very much like one does on the stock market. The fundamental difference between the stock market and MLP is that the investor benefits from what is referred to as limited liability. While the investor participates in the profits of the real estate asset, their losses are limited to their actual investment. All other partners within an MLP are also limited partners, so the risk is mitigated.
So what’s the difference between an MLP and a REIT? REITs
are usually handled by parent trading companies, whereas MLPs are classified as partnerships, with investors being referred to as ‘unitholders’ who do not get involved in the management of the property.
In the US, REITs are thought of as an investment in the financial sector, whereas MLPs are more confined to the energy and natural resource sector. Typically a REIT must payout 90% of its earnings in the form of dividends to shareholders, whereas the partners of an MLP will set their own specific dividend rate. There’s certainly incentive enough to achieve that rate, but it is not a mandatory figure.
MLPs share one commonality with REITs when it comes to taxation. Corporate earnings are typically taxed twice – once at the point where the earnings are booked and then again when distributed to shareholders as dividends. Since earnings are not taxed at the corporate level, REITs and MLPs enjoy a pass-through status which allows them to avoid this double taxation.
Number Nine – Fractional Real Estate Ownership
Gaining increasing traction in Australia, fractional real estate ownership enables investors to develop a real estate portfolio for as little as $100. Properties – both commercial and residential are divided into shares, all of equal value, and investors can enter the market with as little as a single share.
Assuming that the property is rented out, investors enjoy a proportional share of that rental income after management fees are taken into account. Naturally, the investor with only one share is not likely to see any of that money as their proportional monthly rent may well equal less than 1 cent!
When the investor is ready to liquidate their share of the asset, for whatever reason, they return it to the market. If they had invested $100 in a property that was originally worth $100,000 and is now worth $150,000, then their share is now worth $150 – it really is that simple!
Unlike traditional property investment, there are no legal fees, agents’ fees or all of the other cost traditionally associated with buying and selling property. The whole transaction can be completed via an app on the investor’s smartphone and need only take a couple of minutes.
Fractional ownership is gaining traction in other parts of the world too, including Canada, and it’s widely accepted to become a global means of real estate investment in no time at all.
And of course, our TAB APP will be coming to the UK very soon.
Number Ten – Mutual Funds
Once again, this is an indirect form of investing in real estate. Rather than investing in the properties themselves, the investors place their money in mutual funds. Those fund managers then invest those funds in the stocks of building developers and/or building material suppliers – often regarded as highly lucrative because they are usually mostly liquid.
Of course, as with any investment in real estate, such investments follow a cycle. If one invests their money at the peak of the market, just before a downturn, then a loss will inevitably be suffered.
Investments in mutual funds do offer a higher reward, although naturally, it also incurs a much higher risk as well.
So which is right for me?
Despite the many different ways in which the real estate investor can make good money, it’s clear that, whatever the route, the road to profit is a long one. Real estate investment is not for the impatient, nor for those not prepared to weather the storm. But, even a poorly performing property portfolio will offer a higher return than merely leaving one’s money in the bank – and maybe even a lot more.