What makes a good real estate investment? Any good investment has a high chance of success and a solid return on your investment. One of the factors in favor of real estate investing is the relatively small stake needed to get started, compared to investing in many other assets.
A home mortgage generally requires a 20% to 25% down payment, but, in some cases, a 5% down payment is all it takes to purchase an entire property as a rental opportunity. That’s great for those with do-it-yourself skills and plenty of spare time, but it’s only one of several ways to make money in real estate without an outsized investment up front.
Investing in property is considered one of the best ways to build wealth and set up a better future. Surprisingly, you don’t need to be super rich to get started, but you will need to work out a strategy to reach your financial goals.
If you are a property owner, it may be possible to start your portfolio by using the equity in your existing home. Or, if you are new to the market, you could consider investing with a family member or friend.
You need to be smart about how you spend your money. Consider just how long you are prepared to hold onto the property and what will be your exit plan should your circumstances change and you need to sell.
Rental income is not always guaranteed, so you must make sure you purchase a property that will likely attract a reliable tenant.
Importantly, you need to think like an investor and not a homeowner. Remember, you won’t be living in the property, so don’t let your emotions sway your decision about where and what to buy. And don’t rush into anything without proper research and assessing the level of risk.
The decision to become a property investor isn’t one you can make overnight. It requires detailed planning, financial advice and real estate market insight.
Be sure to check out how much similar rental properties in the suburb are fetching per week and if they stay vacant for long. Is there potential for growth – such as being located near upcoming new infrastructure such as a hospital or transport route? Could you expect an even higher return with some simple updates?
Finding the right investment for you and your budget may take several months.
Why invest in real estate?
Property has always been seen as a popular investment because, unlike shares, it is something that people can see and touch. It is less volatile than other types of investments, too.
Real estate generates passive income and has the potential for capital growth, plus there are many tax advantages. It is also a useful investment strategy for first-time buyers who are out-priced from their desired area but looking to build capital.
And even better, it is something that is relatively easy to do with the right amount of research and planning.
How much money do you need to invest in property?
Fortunately, you don’t need a huge capital to get onto the investment property ladder. You will, however, need regular income.
Jeff Chapman, Head of Product Marketing from LJ Hooker Home Loans said investors should budget a 10-20 per cent deposit, which can come in the form of cash or equity in an existing property.
“Government stamp duty is calculated at a higher percentage on property purchased for investment, so don’t forget this when doing your sums.”
Lenders’ Mortgage Insurance (LMI) is often needed when borrowing 80 per cent of the cost of the investment. A guarantor loan is one way around this requirement.
It may even mean you don’t need a deposit. Typically a parent puts up equity in their own home to be used to secure the loan. However, it could strain relationships if something goes askew.
How to start investing in real estate?
Before stepping inside an open home, you must devise a plan. Start by writing yourself a list of goals and a time-frame. Are you looking for short-term yields, or are you happy to wait for long-term capital gains?
Speak with a real estate agent in your target area who will be able to provide some information on the local rental market and what type of properties offer the best returns.
The next step is to see if you qualify for an investment home loan. Be sure that your credit rating is in good order. Pay down any debt in order to increase your borrowing capacity.,
The bank will also look at your age, income and number of dependent children.
Pre-approval is a good idea as it gives investors the ability to act as soon as they find the right property.
It is important to also speak to your accountant about how best to make it work best for your situation. For example, a brand-new property may provide solid depreciation benefits for tax. Or you may want to boost your self-managed superannuation fund by adding another asset. Buying off-the-plan can also be a good strategy if you need extra time to get your finances in order.
Low-cost real estate investing
Affordable home investment is possible; it’s all about knowing what options you have to play with.
Here are some common ways to invest in property with little money:
Convert your PPOR into an investment property: By converting your Principle Place of Residence (PPOR) into an investment property, you can generate a steady flow of rental income and access depreciation and tax benefits, which give you additional cash flow.
Owner-occupier: Another idea is to buy as an owner-occupier and live in the property for six-month to a year before turning it into a rental. Using this strategy, first-home buyers may still be eligible for a grant. Check out what are the regulations in your State or Territory.
Rentvest: Rentvesting is a home-owning strategy where you rent a property to live in while you own an investment property that suits your budget. You can use the income generated by your investment property to repay some or all of your mortgage costs or to support your rental costs.
Consider a joint application for property investment: If it is a struggle to save up for a deposit on your own, you could go halves and buy a property with a friend, family member or even a group. Joint ventures have become increasingly common due to the high cost of housing.
A Real Estate Investment Trust (REIT): is another method of buying property without needing a sizable deposit or taking on debt. Many Australians would likely have exposure to REITs via their superannuation fund. The minimum amount to get started is around $500. REIT can only be discussed and recommended by a licenced financial planner.
First Home Super Saver Scheme (FHSS): The First Home Super Saver Scheme (FHSSS) allows first home buyers to make voluntary contributions (before tax or after tax) into their superannuation which they can access later for their home deposit. Utilising the FHSS prior to moving out can help you turn it into an investment property later on.
How to save money when buying an investment property?
Once you have a plan, it’s time to put it into action! Set a realistic goal and little-by-little work towards putting away enough for a deposit.
First, track your spending and see where you can make some savings. Making your own lunch instead can help, as does cutting down the number of barista-made coffees in favour of instant brews. Entertain at home rather than going out and get rid of any subscription services you rarely use.
Contact your utility and insurance providers to see if you qualify for any further discounts.
A lending specialist can guide you on other potential “out of the box” deposit options. Refinancing your existing home loan could also free up some funds or the possibility of switching to interest-only repayments.
What are some of the things you need to consider
While there are long-term benefits to owning an investment property, it shouldn’t be restrictive of your lifestyle. In addition to paying off the mortgage, there may be expenses for repairs and increased interest on an ongoing basis. You should plan ahead and put extra funds aside should your property become vacant for any period of time.
“It’s a long-term investment, and likely the repayments will be higher than the rent you receive, so you need to be prepared to tip in the extra money each month,” Mr Chapman said.
Other costs to factor into your budget include purchase stamp duty, legal fees and conveyancing costs. And don’t forget ongoing costs such as insurance fees, council rates and strata levies.
A property manager will look after your investment, including maintenance and any repairs. While this is an added cost, it makes being a landlord a whole lot easier.
What makes a good investment property?
The old real estate motto of ‘location, location, location’ is just as true for investment properties as it is for those in the residential market.
It is important that you purchase in a suburb where people will want to live with easy access to shops, public transport, childcare, schools or universities.
The type of dwelling will ultimately depend on your budget. It is important to check there is not an oversupply of vacant stock in your target area.
Look for features that will make your property appealing to a tenant. This could be an ensuite in the master bedroom, an internal laundry, extra storage in the garage and air-conditioning. Renters will also appreciate energy-efficient heating and cooling systems.
Are you also willing to allow pets to live on the property? If so, adding a doggie door or timber floors could be worthwhile. Plus, a pet-friendly property can often offer higher returns.
And while a tennis court, pool, sauna or gym may sound nice, luxury apartments often mean higher strata fees and less rental return.
Key Takeaways
- Buying and managing rental property is an option for investors with do-it-yourself skills and the time to manage the property hands-on.
- “Flippers” look for undervalued properties and look to sell them quickly for a profit.
- REIGs are an option for passive investing in real estate.
- REITs pay dividends and can be bought and sold on exchanges, like stocks.
- Online real estate investing platforms offer diverse opportunities for a relatively modest stake.
1. Rental Properties
Owning rental properties is a good choice for individuals who have do-it-yourself (DIY) skills, the patience to manage tenants, and the time to do the job properly.
Although financing can be obtained with a relatively low down payment, it does require substantial cash on hand to finance upfront maintenance and to cover periods when the property is empty or tenants do not pay their rent.
On the plus side, once the property starts bringing in cash it can be leveraged to acquire more property. Gradually, the investor can acquire a number of income streams from multiple properties, offsetting unexpected costs and losses with new income.
Rental Property Investing
Pros
- Provides regular income and potential appreciation
- Can be maximized through leverage
- Many expenses are tax-deductible
Cons
- Managing tenants can be tedious
- Unexpected costs can eat up income
- Unpredictable vacancies can reduce income
According to U.S. Census Bureau data, the sales prices of new homes (a rough indicator for real estate values) consistently increased in value from the 1960s to 2007, before dipping during the financial crisis.1 Subsequently, sales prices resumed their ascent, even surpassing pre-crisis levels.23
By the end of 2023, the average home sale price in the U.S. hit $498,300, slightly off record highs recorded earlier in the year.4
Mortgage lending discrimination is illegal. If you think you’ve been discriminated against based on race, religion, sex, marital status, use of public assistance, national origin, disability, or age, there are steps you can take. One such step is to file a report to the Consumer Financial Protection Bureau or with the U.S. Department of Housing and Urban Development (HUD).5
2. Real Estate Investment Groups (REIGs)
Real estate investment groups (REIGs) are ideal for people who have some capital and want to own rental real estate without the hassles of managing it hands-on.
REIGs are a pool of money from a number of investors, similar to a small mutual fund, that is invested in rental properties.6 In a typical real estate investment group, a company buys or builds a set of apartment blocks or condos.
A single investor can own one or multiple units of self-contained living space, but the company operating the investment group collectively manages all of the units, handling maintenance, advertising vacancies, and interviewing tenants.
In exchange for conducting these management tasks, the company takes a percentage of the monthly rent.
A standard real estate investment group lease is in the investor’s name, and all of the units pool a portion of the rent to cover vacancies. This means you’ll receive some income even if your unit is empty. As long as the vacancy rate for the pooled units doesn’t spike too high, there should be enough to cover costs.
REIG Investing
Pros
- More hands-off than owning rentals
- Provides income and appreciation
Cons
- Vacancy risks
- Fees similar to those associated with mutual funds
- Susceptible to unscrupulous managers
3. House Flipping
House flipping is for people with significant experience in real estate valuation, marketing, and renovation.
This is the proverbial “wild side” of real estate investing. Just as day trading is different from buy-and-hold investing, real estate flippers are distinct from buy-and-rent landlords.
Real estate flippers often aim to profitably sell the undervalued properties they buy in less than six months.
Some property flippers don’t invest in improving properties. They pick properties they hope have the intrinsic value needed to turn a profit without any alterations.
Flippers who are unable to swiftly unload a property may find themselves in trouble because they typically don’t keep enough uncommitted cash on hand to pay the mortgage on a property over the long term. This can lead to snowballing losses.
There is another kind of flipper who makes money by buying reasonably priced properties and adding value by renovating them. This is a longer-term investment, and investors may only be able to take on one or two properties at a time.
House Flipping
- Ties up capital for a short time period
- Can offer significant returns
Cons
- Requires deep market knowledge
- Hot markets can cool unexpectedly
4. Real Estate Investment Trusts (REITs)
A real estate investment trust (REIT) is best for investors who want portfolio exposure to real estate without making a traditional real estate transaction.
A REIT is created when a corporation (or trust) uses investors’ money to purchase and operate income properties. REITs are bought and sold on the major exchanges like any other stock.7
A corporation must pay out 90% of its taxable profits in the form of dividends to maintain its REIT status. By doing this, REITs avoid paying corporate income tax, whereas other companies are taxed on profits and then determine whether and how to distribute after-tax profits as dividends.8
Like regular dividend-paying stocks, REITs are a solid investment for investors who seek regular income.
REITs can afford investors entry into nonresidential investments such as malls or office buildings, that are generally not feasible for individual investors to purchase directly.
More importantly, some (though not all) REITs are highly liquid because they are exchange-traded trusts. In practice, REITs are a more formalized version of a real estate investment group.
When looking at REITs, investors should distinguish between equity REITs that own buildings and mortgage REITs that provide financing for real estate and may also invest in mortgage-backed securities (MBS).
Both offer exposure to real estate, but the nature of the exposure is different. An equity REIT represents ownership in real estate, while a mortgage REIT focuses on the income from real estate mortgage financing.
Investing in REITs
Pros
- Pay dividends to investors
- Core holdings tend to be long-term, cash-producing assets
- Many trade on exchanges
Cons
- Risk of real estate market downturn
- Liquidity risk if the REIT is thinly traded or not publicly traded
5. Online Real Estate Platforms
Real estate investing platforms are for those who want to join others in investing in a relatively large commercial or residential deal. The investment is made via online real estate platforms, which are also known as real estate crowdfunding.
The best real estate crowdfunding platforms pool resources of investors looking for opportunities with other investors looking for financial backing for real estate projects. That gives the investor an opportunity for diversifying into real estate without putting up a large stake.
Investing in Real Estate Platforms
Pros
- Can invest in a single project or a portfolio of projects
- Can diversify geographically
Cons
- Tend to be illiquid with lockup periods
- Management fees reduce profits
Why Should I Add Real Estate to My Portfolio?
Real estate is a distinct asset class that many experts agree should be a part of a well-diversified portfolio. This is because real estate does not usually closely correlate with stocks, bonds, or commodities.
Real estate investments can also produce income from rents or mortgage payments in addition to the potential for capital gains.
What Is Direct vs. Indirect Real Estate Investing?
Direct real estate investments involve owning and managing properties. Indirect real estate involves investing in a pool of money that is used to buy and manage properties. REITs and real estate crowdfunding are examples.
Is Real Estate Crowdfunding Risky?
Compared to other forms of real estate investing, crowdfunding can be riskier. Some of the projects available may appear on crowdfunding sites because they were unable to source financing from more traditional means. Moreover, many real estate crowdfunding platforms require investors’ money to be locked up for several years, making it an illiquid investment.
Still, the top platforms boast annualized returns of between 2% and 20%, according to Investopedia research.
The Bottom Line
Whether real estate investors use their properties to generate rental income or to bide their time until the perfect selling opportunity arises, it’s possible to build out a robust investment program by paying a relatively small part of a property’s total value upfront.
As with any investment, there is profit and risk with real estate investing and markets can go up as well as down.
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