You probably can guess that I love real estate investing. While real estate investing can be risky, it is not that complicated, and I believe wholeheartedly that anyone can build up their own real estate portfolio. The text book definition of real estate investing is a broad category of operating, investing, and financial activities centered around making money from tangible property or cash flows somehow tied to a tangible property. Whew! That’s a mouthful and complicated. In short, there are many forms of investment you can dip your toes in when it comes to real estate. For most of us, the purest and simplest form of real estate investing is rental income property. In a nutshell, you acquire a property then you find someone who wants to use this property to enter into an agreement with you in a landlord and tenant relationship.
For me, rental income from real estate investments has a huge psychological advantage compared to dividends and interest from investing in equity investments. I can drive by the property, see it, and touch it. Paint the property with my favorite color or hire a builder to expand it and I can determine the rental rate and negotiate the best deal for me. The possibility is endless. So, for a self-confessed control freak, real estate gives me a lot more control over my tangible investment and immense satisfaction. There are more than just residential properties that you can invest in.
Below are the 3 types of real estate property that you can consider:
1- Residential real estate. Meaning you invest in real estate tied to houses, condos or apartments. You can do monthly rent or leases which usually run 12 months. Or if you are lucky enough to be in a red-hot rental market that gives landlord more power, then month to month rental will allow you to quickly adjust the lease rate and gain more cash flow. Nice and simple
2- Commercial real estate. Commercial real estate investment can be double edge sword due to complexity and risky nature of commercial lease agreement. These leases contract can be in years. So, when a commercial real estate is fully leased with long term tenants who agreed to hefty priced lease rates, the cash flow continues even if the lease rates on comparable properties fall (provided that your tenant doesn’t go bankrupt). This is a good scenario. But you also could be earning significantly below market lease rates on an office building because you signed long term leases before lease rates increased. There are three types of commercial real estate property that you can invest in:
- Commercial real estate property, which investments largely consist of office buildings
- Industrial real estate property, which include warehouses and distribution centers, storage units, manufacturing facilities, and assembly plants
- Detail real estate investing, which include shopping centers and malls
3 -Mixed-use real estate investing. This is a catch-all category for when you develops or acquires a property that includes multiple types of real estate properties. For example, you might build a 5-story building that has stores and restaurants on the ground floor, office space on second floors, and residential apartments on third to fifth floors
There are many advantages to investing in real estate, but I will just list the 2 main ones:
1 – Tax, the three letter words. Most of us want to pay less tax unless you are Warren Buffet. As a landlord, you can deduct certain property expenses (like mortgage payment which is cost to finance the property) from your income and thus reducing the taxes you owe. If your expenses (mortgages and maintenance costs) exceed your rental income, you may be able to deduct that loss from any other sources of income you have (like your employment income). For Ontarians, the list of tax deductible includes: mortgage interest paid, property taxes, property insurance, maintenance/upgrades (keep those Home Depot and Lowes receipts, you may get tax break from CRA for those), property management (if you use an agent or property management company to manage your property) and utility bills (if you include them in the rent). An accountant would be able to give you a lot more insights rental income tax code and help you pay less to the tax man.
2 – Cash flow. You get a regular monthly cash flow. Other kinds of investments may pay out less often or income may be less predictable compare to real estate. If you have decent and stable stream of tenants, you will have steady cash flow every month
Real estate is not without risks and disadvantages. There are 3 big downsides that I want to highlight:
1 – The pains of being a landlord. It sounds nice right? You are a Landlord. But there are a lot of responsibilities and challenges of being one. When something in the property breakdown, the tenants will pick up the phone and call you. You will be responsible to do the repair and sometimes on an emergency. Once, the basement of my rental home got flooded and I had to repair the damage and reimbursed the tenants for the damages on their stuffs. Did I mention, it happened on one of the coldest day in December? It was chaotic nightmare.
Second, dealing with tenants can be challenging, especially if they don’t pay their rent on time and cash flow is tight. It could be awful and not profitable, so be sure to do credit check and know who you rent your property to.With the availability of Craiglist and Kijiji, you can post your rental listing on these sites free. You can also enlist the help of a real estate agent to lease your property. There are benefits and costs to both approaches. For me, I used a real estate agent. I found that tenants who I got through the service of a real estate agents tended to stay longer, financially stable (they didn’t miss any monthly rent payment) and more responsible.
2 – It may be difficult and costly to sell the property. If your rental property locates on a densely metropolitan and consider a “hot” housing market, you won’t have this problem. You can sell your property very quickly and make a bundle in equity gain. But in an average housing market, it can take time to sell as thus can also be costly to sell due to real estate and legal fees.
3 – It is expensive to invest. For Canadian, you must have a down payment of at least 20% when you buy a second property. You may need a mortgage. And, you will have high monthly expenses to cover when you own a building. Of course, you hope the income you receive from your tenants will cover this. In a good case scenario, it will work out and you get a surplus but it could also turns badly and you end up with a deficit.
You can tell by now that I will not just tell you the good stuffs. I will also tell you what happen when things don’t work out. With rewards, there will always be risks. I want to provide you with all information that I know so you can make informed decision. And I would always advocate that you do your due diligent and talk to experts such as accountant or lawyer so you can make the right decision for you.
Other investment options
And I digress… getting back to real estate investing. And in a nutshell, investing in physical real estate properties can require a lot of your time and money for the reasons that I mentioned above. I ended up doing a lot of grunt works like painting, cleaning, repairing and renovating on my rental property to save some expenses. So it is a lot of hard works if you are up for it. But if you don’t feel like getting your nail chip by swinging the hammer or painting for hours, you can also get involved on the lending side of real estate investing.
For instance, you can own a bank stock that underwrites mortgages and commercial real estate loans. This can include public ownership of stocks. This may be a good option if you don’t have a lot money to invest and you don’t want to do the heavy lifting work. You can lease a space so you have little capital tied up in it, improving it, and then sub-leasing that same space to others for much higher rates, creating decent returns on capital. An example is a well-run flexible office business in a major city where smaller or mobile workers can buy office time or rent specific offices.
A friend of mine makes a very comfortable living for the last 10 years by owning and managing few sub-leasing office buildings. The more complicate options which include underwrite private mortgages for individuals, often at higher interest rates to compensate you for the additional risk, perhaps including a lease-to-own credit provision. Or invest in mezzanine securities, which allow you to lend money to a real estate project that you can then convert into equity ownership if it isn’t repaid.
The last real estate investment that I want to briefly touch on is flipping. Yes, the other F word! Flipping can be very profitable if you have funding, extremely discipline and have access to a reliable group of contractors and trade professionals. Flipping has been very popular and sexy way to invest in real estate thanked to shows like Flip or Flop and many others on HGTV. I must tell you, the reality of flipping is hard works. It is not as easy as Christina and Tarek El Mousa make it looks and it is extremely risky investment. You can win big and lose just as big. I will write a post on flipping based on my research and feedbacks from 3 flippers whom I know well as well as other business sources.
All this is to say that there are many options for you to get a bit of the real estate investment richness. And real estate investment can be very simple or complicate depending on you and what you want to invest in. For the last 15 years, I acquired 3 properties and they have been good investments for me. So, I encourage you to research and see if real estate is an investment that you can invest in. From my experience, it has been very hard work but also very rewarding. Write to us about your real estate investing venture. We love to hear from you.