If you own your home, your home equity may be your biggest asset. However, few people would consider home equity to be an investment asset because it does not produce income. Rather, its value comes as collateral on a home equity loan, home equity line of credit, or mortgage and it can only be monetized by selling the home. To generate income from real estate, you need to be involved in real estate investing.
The housing bubble of 2008 disabused investors of the notion that real estate will always appreciate in value. On the contrary, real estate is subject to the same market forces as any other asset. However, real estate has a few attributes that make it uniquely suited to any investment portfolio – land is in limited supply, location determines value, real estate lasts forever, and property has multiple uses besides investment. Because of the uniqueness of real estate as an asset, real estate investing can be attractive as a side gig or as a full-time job. Here are some considerations for getting started in real estate investing.
Diversity of Real Estate Investing
Reality television programs popularized the idea of house flipping. While house-flipping is a form of real estate investing, it is not the only way to invest in real estate. Rather, real estate investments come in many different forms. Choosing the right one for you depends on many factors including your assets, the time and effort you can devote to real estate investing, and your tolerance for risk.
Multi-unit Residential Real Estate Investing
Multi-unit residential real estate, such as apartment buildings, duplexes, triplexes, and fourplexes, is a popular investment for two primary reasons:
- Rental income: Rather than flipping the real estate to realize a one-time profit, income from the rented units provides a steady source of income.
- Financing options: Residences with four or fewer units are eligible for home mortgages and FHA loans if you plan to occupy one of the units. If you do not plan to live in your multi-unit residence or the residence has more than four units, financing through small business loans or hard money loans is available.
Fix-and-Flip Real Estate Investing
This can be an involved and risky form of real estate investing. On the other hand, this can also yield some of the greatest returns. Fix-and-flip is exactly what it sounds like – you buy an existing residential building, repair it, and sell it.
The risk of fix-and-flip transactions comes from the investment of time and money into the property above its acquisition cost. For example, if you buy a home and invest $30,000 fixing it up, you must be sure that your renovations will attract a buyer willing to pay at least $30,000 more than you paid for the home so you can pay off your loan and turn a profit.
Securing Financing for Real Estate Investing
After you decide how you want to invest in real estate, you need to find a way to finance your real estate investment. As described briefly above, there are three general categories of financing for real estate investing:
- Home mortgage: Home mortgages are widely available for relatively low-interest rates. However, the terms of home mortgages are long and loan requirements are high. Loans are usually available only to borrowers with high credit scores and borrowers with no credit history or poor credit history are excluded. Moreover, home mortgages can take weeks to be approved and funded so they are not always the best option for investors who need quick approval when the right property comes on the market.
- Hard money loans: Hard money loans are offered based on the value of the real estate being acquired. Hard money lenders use a metric called the After Repair Value (ARV)which is the future value of the asset after its renovated. Generally, the hard money lender will lend between 60-70% of the After Repair Value. In this way, hard money loans can cover at least all or most of the repair costs since the value used is the after-repair value (ARV). Hard money loans can be approved and funded much more quickly than home mortgages because of the less stringent underwriting guidelines. Terms are much shorter, usually notes that last months rather than years.
Bringing it Together to Get Started in Real Estate Investing
After choosing a strategy for investing, targeting an asset, and securing financing, the hard work begins. You must acquire the asset, fix it if necessary, and flip it. However, by carefully doing the legwork at the beginning, you will be in a much better position of reaching your ultimate goal of making a substantial return on your investment!
For insight into the hard money lending costs associated with real estate investing, contact Longhorn Investments.