Why Invest in Real Estate?
That’s a good question. Residential real estate ownership is gaining ever-increasing interest from retail investors for many of the following reasons:
Real estate can provide more predictable returns than stocks and bonds.
Real estate provides an inflation hedge because rental rates and investment cash flow usually rise by at least as much as the inflation rate.
Real estate provides an excellent place for capital in times when you’re unsure of the prospects for stocks and bonds.
The equity created in a real estate investment provides an excellent base for financing other investment opportunities. Instead of borrowing to get the capital to invest (i.e., buying stocks on margin), investors can borrow against their equity to finance other projects.
The tax-deductibility of mortgage interest makes borrowing against a home attractive.
In addition to providing cash flow for owners, residential real estate can also be used for a home or other purposes.
Passive vs. Active Income
One key distinction between buying and holding and flipping properties is that the former can provide you with passive income, while the latter offers active income.Why Invest in Real Estate?
That’s a good question. Residential real estate ownership is gaining ever-increasing interest from retail investors for many of the following reasons:
Real estate can provide more predictable returns than stocks and bonds.
Real estate provides an inflation hedge because rental rates and investment cash flow usually rise by at least as much as the inflation rate.
Real estate provides an excellent place for capital in times when you’re unsure of the prospects for stocks and bonds.
The equity created in a real estate investment provides an excellent base for financing other investment opportunities. Instead of borrowing to get the capital to invest (i.e., buying stocks on margin), investors can borrow against their equity to finance other projects.
The tax-deductibility of mortgage interest makes borrowing against a home attractive.
In addition to providing cash flow for owners, residential real estate can also be used for a home or other purposes.
Passive vs. Active Income
One key distinction between buying and holding and flipping properties is that the former can provide you with passive income, while the latter offers active income.Pro: A Faster Return on Your Money
One big advantage of flipping properties is realizing gains quickly, which releases capital for other purposes. The average time to flip a house is about six months, though first-timers should expect the process to take longer.
Pro: A Potentially Safer Investment
Unlike the stock market, which can turn in the middle of a day, real estate markets are often more predictable. In a sense, flipping properties could be considered a safer investment strategy because it is intended to keep capital at risk for a minimal amount of time. It also lacks the management and leasing risks inherent in holding real estate—not to mention the hassles of finding tenants, collecting rents, and maintaining a property.
Con: Costs
Flipping houses can create cost issues that you don’t face with long-term investments. The expenses involved in flipping can demand a lot of money, leading to cash flow problems. Because transaction costs are very high on both the buy and sell sides, they can significantly affect profits. If you are giving up your day job and relying on flipping for your income, you’re also giving up a consistent paycheck.
Con: Taxes
The quick turnaround in properties (and speed is everything in successful flipping deals) can create swings in income that can boost your tax bill. That is especially true if things move too fast to take advantage of long-term capital gains tax rules.
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In those cases, you’ll have to pay a higher capital gains tax rate based on your earned income if you own a property for less than a year.Choosing a Strategy
You need to answer a few critical questions to decide whether flipping properties or holding them long-term is the best strategy. You must decide whether your capital allocation to real estate is a permanent investment or just a way to profit from an expected rise in home prices.
It would also help if you determined what risk and return ratio is appropriate for this portion of your investment portfolio. Finally, you must have the risk tolerance and skills to take on the management responsibilities that go along with either type of investment.
Suppose the capital is not available to purchase a diversified portfolio. In that case, a prospective investor must be prepared to take on unsystematic risk. That includes individual property risks and potential lack of demand for the property, whether by homeowners or renters.
If you’re considering a buy-and-sell strategy, you must also determine whether you have the skill to uncover distressed sale properties or fixer-uppers. In this transactional strategy, it’s essential to figure out whether capital can be turned enough times within a given investment period to overcome the transaction costs. They include brokerage, financing, and closing fees.
