Top Ways to Invest in Real Estate: What to Know

Real estate investing is often considered a powerful way to build wealth, offering stability and the potential for high returns. Whether you're looking to diversify your portfolio, generate passive income, or capitalize on property appreciation, real estate can be a smart investment strategy.

No matter your budget or experience level, there are opportunities to get started in the real estate market. Before you get started investing in real estate, it may be helpful to explore the different methods available to you.

1. Rental Properties

Purchasing rental properties is a top real estate investment strategy because it offers consistent cash flow and long-term wealth. Investors can purchase many types of properties that allow them to earn rental income and benefit from property appreciation, ranging from residential to commercial to industrial property. As the market grows, rental properties increase in value, providing passive income and potential capital gains. Many investors leverage this steady income to expand their portfolios, creating a sustainable and compounding source of wealth over time.

Pros of Buying Rental Properties

A mainstay of real estate investment, purchasing a rental property offers numerous benefits, which include:

Steady cash flow: Rental properties can provide consistent income from tenants, creating a reliable cash flow stream for investors, especially in high-demand areas.
Appreciation potential: Rental properties can increase in value over time, allowing investors to benefit from that appreciation when selling or refinancing.
Tax benefits: Investors can take advantage of tax deductions on expenses such as mortgage interest, property management fees, and maintenance costs, significantly reducing taxable income.
Inflation Hedge: Real estate often acts as a hedge against inflation, as property values and rental income tend to rise along with inflation.

Cons of Buying Rental Properties

Purchasing a rental property also comes with potential downsides, which are:

High initial costs: Purchasing real estate typically requires substantial money upfront for a down payment, closing costs, and potential repairs or renovations.
Time and effort: Managing rental properties involves a major time commitment for tasks like tenant screening and property maintenance.
Risk of vacancy: When a rental property is unoccupied, it doesn’t generate any rental income, and investors must cover mortgage payments and maintenance costs out of pocket.
Property management challenges: Dealing with problematic tenants or property maintenance issues can lead to unexpected costs, legal disputes, or stress for the investor.

2. House Flipping

House flipping involves purchasing properties that are undervalued or in need of repairs, renovating them, and then selling them for a profit. Investors typically look for homes in desirable locations that require cosmetic updates or structural improvements, which can increase their market value. Successful house flipping relies on careful budgeting, time management, and knowledge of the real estate market to ensure that the final sale price exceeds the combined cost of purchasing and renovating the property.

Pros of House Flipping

As a method of real estate investing, house flipping offers the following pros:

Potential for high returns: If done correctly, house flipping can offer significant profits by buying properties at a low price, renovating them to increase their market value, and selling for more than the cost of the initial investment.
Short-term investment: House flipping typically has a faster turnaround compared to other real estate investments like rental properties, allowing investors to see a return on their investment within months.
Ability to add value: Investors can directly influence the profitability of a flip by increasing the property’s market value through smart renovations.
Market flexibility: Flippers can choose properties in various markets, targeting areas that show the best potential for quick appreciation and demand.

Cons of House Flipping

The cons of house flipping include:

No mechanism to defer capital gains taxes: Properties that are flipped are considered “inventory for sale” rather than “investment property” for tax purposes and thus aren’t eligible for tools such as a 1031 exchange, which allow the reinvestment of funds from the sale into new property in order to defer capital gains taxation.
Higher financial risk: If the renovation costs exceed estimates or the property doesn't sell for the expected price, investors may face significant financial losses.
Time-consuming: Renovations can be time-intensive, requiring attention to detail, coordination of contractors, and navigating potential delays.
Unpredictable market conditions: Real estate markets can fluctuate and factors like changes in interest rates or a downturn in the local housing market can impact potential profits.
Requires more money upfront: Flipping houses requires a large amount of money upfront for purchasing, renovating, and covering costs like property taxes and insurance before the house is sold.

3. Real Estate Investment Trusts (REITs)

Real Estate Investment Trusts (REITs) are companies that own, operate, or finance income-producing residential, commercial, and industrial properties. REITs pool capital from investors to invest in large properties, allowing access to real estate without direct ownership or management. Investors buy shares through the stock market, receiving income primarily from rent and lease payments as dividends.

Pros of REITs

If you’re considering investing in REITs, you’ll want to weigh the pros and cons. Some of the advantages of REITs are:

Liquidity: Since REITs are publicly traded on stock exchanges, they can be bought and sold easily, providing investors with more liquidity compared to physical real estate investments.
Steady income: REITs often provide regular dividend payments to investors, as they are required by law to distribute at least 90% of their taxable income to shareholders.
Lower upfront costs: Investing in a REIT allows individuals to gain exposure to real estate with a relatively small investment.
Professional management: REITs are managed by professionals who handle the property selection, acquisition, maintenance, and leasing, relieving investors of the day-to-day responsibilities of property management.

Cons of REITs

Some of the drawbacks of REITs to be aware of are:

No deferral of capital gains: Ownership of REIT interests is considered ownership of shares, or personal property, for income tax purposes. Personal property is not eligible for a 1031 exchange, so capital gains taxation can’t be deferred if REIT shares are sold.
Market volatility: REITs can be affected by stock market fluctuations, meaning their value can drop even if the underlying real estate portfolio performs well.
Limited control: Investors have no control over the management or decision-making process within a REIT.
Dividend taxation: Dividends from REITs are often taxed at a higher rate than qualified dividends from stocks, which may reduce the overall return for investors.
Interest rate sensitivity: REITs can be negatively impacted by rising interest rates, as they can lead to higher borrowing costs and decreased property values.

4. Real Estate Investment Groups (REIGs)

Real Estate Investment Groups (REIGs) pool capital from investors to purchase and manage real estate, typically focusing on residential or commercial properties. Investors buy shares in the group, owning a portion of the properties and receiving rental income or profits from property sales.

Pros of REIGs

Investing in REIGs can come with the following benefits:

Diversification: REIGs typically invest in multiple properties, allowing investors to spread their risk across different assets and locations and reducing the impact of poor performance in any one property.
Professional management: REIGs handle all aspects of property management, including maintenance, tenants, and operational tasks.
Passive income: Investors receive rental income or profits from property sales without needing to be directly involved in property management.
Lower upfront costs: REIGs allow investors to gain exposure to real estate with a lower initial investment compared to buying properties individually, as they pool capital from multiple participants.

Cons of REIGs

Those considering investing in REIGs should also consider the potential drawbacks, such as:

Management fees: REIGs charge management fees for overseeing the properties, which can reduce the overall return on investment.
Limited Control: Investors in a REIG have no control over the day-to-day decisions regarding property management, which means they rely entirely on the group's management team to make important choices.
Potential for lower returns: REIGs may not offer the same high returns as direct property investments, especially if the properties underperform or if management is inefficient.
Illiquidity: Similar to other real estate investments, REIGs can be less liquid than stocks or bonds, making it difficult for investors to quickly access their capital if needed.

5. Online Real Estate Platforms

Online real estate platforms allow investors to participate in real estate projects without owning physical properties. Also known as real estate crowdfunding, these platforms connect investors with opportunities in residential or commercial properties, allowing them to invest in a variety of projects, such as rentals or developments, with lower capital requirements. They offer convenience, diversification, and access to real estate markets that might otherwise be difficult for individual investors to enter.

Pros of Online Platforms

Some of the pros of online platforms to know before you invest include:

Lower upfront investment: Many online real estate platforms allow investors to start with smaller amounts of capital than what’s required with traditional real estate investments, making them more accessible to beginning investors.
Diversification: Online platforms offer access to various types of real estate investments, such as residential, commercial, or mixed-use properties, helping investors diversify their portfolios and reduce risk.
Convenience and accessibility: Investors can browse and invest in real estate opportunities from anywhere, offering a user-friendly way to access real estate markets without the need for extensive research or property management.
Potential for passive income: Online platforms often offer passive income opportunities through rental properties or real estate projects that distribute earnings to investors regularly, without active involvement.

Cons of Online Platforms

It’s also important to consider the cons of online platforms, such as:

Limited control: Investors on online platforms have no direct control over the property management or decision-making processes, relying entirely on the platform's team to manage investments.
Platform fees: These platforms usually charge management fees, which can reduce the overall returns for investors.
Liquidity concerns: Although more liquid than physical real estate, investments in online platforms can still be relatively difficult to cash out or sell shares quickly.
Market and platform risks: Online real estate platforms may be subject to market fluctuations or operational risks, such as platform shutdowns or mismanagement, which can affect the stability and profitability of investments.

6. Rent Out a Room

Renting out a room in your home is a simple and accessible way to get started in real estate investing. By leasing a spare room to tenants, homeowners can generate additional income while maintaining control over the property. Renting out a room also provides the opportunity to test the waters of property management, such as handling lease agreements, maintenance, and tenant relations, all while earning passive income.

Pros of Renting Out a Room

As a form of real estate investing, renting out a room can provide the following benefits:

Low initial investment: Renting out a room requires little upfront capital compared to purchasing a separate rental property, making it an affordable way to start investing in real estate.
Additional income: Renting a room generates extra income, which can help cover mortgage payments, utilities, or other living expenses, providing a steady cash flow.
Flexibility: Homeowners can choose short-term or long-term rental arrangements, allowing for flexibility based on personal circumstances or market conditions.
Reduced housing costs: Renting out a room can help offset overall housing costs, making it easier to manage personal finances or save for future investments.

Cons of Renting Out a Room

Before you rent out a room in your home, be sure to consider the following cons:

Limited privacy: Renting out a room means sharing your living space with a tenant, reducing your privacy and personal space in your own home.
Tenant management: As a landlord, you'll be responsible for screening tenants, managing leases, and handling potential issues like late payments or maintenance requests.
Inconsistent income: Rental income from a room may be less predictable than other types of real estate investing, especially if you have vacancies or short-term tenants.
Potential wear and tear: Having a tenant in your home can lead to increased wear and tear on your property, requiring more maintenance and repairs over time.

Real Estate Investing FAQs

Looking for more information about real estate investing? Check the answers to some frequently asked questions below.

What is real estate investing?

Real estate investing involves purchasing, owning, managing, or selling properties to generate income or profit. Investors can earn through rental income, property appreciation, or selling properties for a higher value than the original purchase price.

What’s the difference between direct and indirect real estate investing?

Direct real estate investing involves owning and managing physical properties, offering control and higher returns but with more responsibility. Indirect investing, through methods like REITs or crowdfunding, provides exposure to real estate without direct ownership, offering less hands-on involvement, but with potentially lower returns and less control.

How do you start investing in real estate?

To start investing in real estate, you need to research the market, understand different investment strategies, secure financing, and decide whether to invest directly in properties or through investment vehicles like REITs or real estate crowdfunding. Set clear financial goals and determine how much capital you're willing to invest, considering factors like risk tolerance and time commitment. You can then explore different investment options and network with experienced professionals who can help you make informed decisions as you begin your real estate investment journey.

What’s the best way to invest in real estate for beginners?

For beginners, the easiest way to start investing in real estate is often through Real Estate Investment Trusts (REITs), real estate crowdfunding, or rental properties, as these options offer lower barriers to entry and require less direct involvement in property management.

The Final Word on Real Estate Investing

Real estate investing includes a variety of strategies, from direct ownership of rental properties to passive investments through REITs or REIGs. Each method comes with its unique benefits, allowing investors to choose options that align with their financial goals, risk tolerance, and time commitment.

For those looking to defer taxes on capital gains while reinvesting in new properties, a 1031 exchange can be a powerful tool. As you begin your journey into real estate investing, take the time to learn more about 1031 exchanges and the advantages they have to offer