Imagine spending extra time with your family, doing more of the things you love, or simply going on a much-needed break without worrying about how it’s taking time away from the income you’re bringing into the household. For many people, this is what the concept of financial freedom looks like.
Financial freedom is not just about being wealthy; it’s about having more control over your time and choices. There’s no single path to financial independence, but one of the ways to achieve it is through real estate investing.
If the thought of investing in real estate intimidates you, the good news is that there are different types of real estate investments that cater to different levels of risk, budgets, and skill sets. In this article, we’ll discuss how you can use real estate to help you reach your goal of financial freedom with property investing and the different types of real estate investments available today.
Financial Benefits of Real Estate
In many ways, real estate can be an ideal investment; one that offers a number of opportunities for returns both in terms of cash flow and appreciation. Of course, the exact returns will depend a great deal on the investment in question, the market it’s in, the price point that you buy it at, how it’s financed, and how well it’s managed. But the great thing about real estate is that you can assess the viability of a potential investment ahead of time to get a good idea about whether it’s likely to offer the type of returns that you’re looking for.
In the United States, the average annual return on investment is 10.6% for residential real estate. One of the great things about real estate is that it tends to work well with inflation. That’s because typically, as inflation rises, property values do as well. For rental properties, so does the amount that you can charge in rent. This means that overall, you could see your returns increase both in terms of cash flow and appreciation, depending on the market, as well as other factors.
Real estate investment offers two primary financial benefits:
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Long-Term Appreciation: Appreciation is the increase in the property’s value over time. Real estate typically appreciates long term due to factors including market demand, neighborhood development, and inflation. Appreciation can be recognized when you sell the property. However, the amount that your property appreciates will vary, depending on the market it’s in, and other factors.
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Short-Term Cash Flow: This is the immediate income generated from renting out the property. It’s a predictable and stable source of revenue. Rental income can be used to cover property-related expenses and, ideally, provide a steady stream of income to the investor.
Balancing these two aspects is key to a successful real estate investment strategy. While short-term rental income provides immediate financial benefits, long-term appreciation has the potential for substantial wealth accumulation over time. Different housing markets tend to offer different returns in terms of cash flow and appreciation, so you’ll want to invest carefully. Always conduct due diligence ahead of time to find a market, and property, that offers the type of returns that you’re looking for.
7 Types of Real Estate Investments
There are a few different types of real estate investments. The right investment for you will vary, depending on a few factors including your needs, what you’re looking for, how hands-on you plan to be, and your budget. Whether you’re a hands-on or passive investor with a modest budget or significant capital. Understanding these different investment methods is the first step toward making a profitable investment.
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Rental Properties
Investing in rental properties is one of the most straightforward ways to get into real estate. It involves buying residential properties and renting them out to tenants. The key attraction is the generation of a steady stream of rental income. These investments can also provide both short-term cash flow and long-term property value appreciation. Some rental investments may require hands-on work, but some landlords opt to outsource to a property manager, drastically reducing the amount of time that’s required.
Pros:
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May Offer Steady Income: Rental properties can provide consistent cash flow.
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Potential Property Appreciation: Historically, real estate values tend to increase over time. Actual appreciation will depend on a number of factors including the local housing market.
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Tax Benefits: Rental property offers a number of tax ductions.
Cons:
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Active Management: May require time and effort in managing properties and tenants (However, this can be outsourced to a property manager).
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Upfront Capital and Recurring Expenses: An initial investment is often needed to acquire the property. There are also regular expenses for repairs, renovations, taxes, property management, and marketing.
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Market Fluctuations: As with all investments, actual returns may be subject to fluctuations in the real estate market. Typically, however, rental property can still be rented, allowing investors to continue to generate cash flow even during times of economic uncertainty.
May Be a Good Option For: Investors who are seeking consistent monthly income and (in some cases) long-term asset growth.
Read Beginner’s Guide: How to Start Investing in Rental Properties.
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Flipping Houses
House flipping, also known as the BRRRR method, is when an investor buys properties at a low price, renovates them, and then sells them for a profit. This type of investment is more short-term but can offer high returns. It requires a good understanding of the real estate market, renovation costs, and the ability to perform or manage extensive repairs.
Pros:
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Potentially High Returns: Potential for significant profits in a short period.
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Control: Direct involvement in property improvement decisions.
Cons:
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Market Risk: Profit is highly dependent on housing market conditions at the time of purchase and sale.
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Unforeseen Costs: Renovation costs can exceed initial estimates.
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Time: There are unforeseen risks when renovating which may extend the time on your property’s return.
May Be a Good Option For: Hands-on investors with a good understanding of real estate, construction, and the housing market.
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Vacation Rentals
Investing in vacation rentals involves purchasing properties in popular tourist destinations and renting them out on a short-term basis. These properties can, in some cases, yield higher rental rates per day than traditional rentals, however, they typically have higher expenses too, and may have higher vacancy rates than long-term rentals. The success of this investment depends heavily on the location and seasonal demand for vacation rentals.
Pros:
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Potentially High Gross Rental Income: Potential for higher per-night rental rates.
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Personal Use: Opportunity to use the property for personal vacations.
Cons:
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Seasonal Fluctuations: Income can be highly seasonal.
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Intensive Management: Requires hands-on management and marketing. This can be outsourced, but it may be at a much higher cost than long-term rental properties require.
May Be a Good Option For: Investors who can manage the seasonality of the tourist market. Suitable for those interested in combining personal enjoyment with investment and willing to engage in active property management.
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Commercial Real Estate
This refers to investing in property for business purposes, such as office buildings, retail spaces, or warehouses. Commercial real estate often has longer leases than residential real estate. However, it requires a significant capital investment and an in-depth understanding of the commercial market.
Pros:
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Long-Term Leases: Offers stability with longer lease terms.
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Higher Income Potential: Potentially higher rental income compared to residential properties.
Cons:
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Larger Investment: Typically requires a bigger initial investment.
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More Risk: High potential returns are typically offset by higher risk.
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Economic Sensitivity: More susceptible to economic downturns.
May Be a Good Option For: More experienced investors with significant capital. Ideal for those looking for stable, long-term income streams and prepared to navigate the complexities of the commercial market.
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Real Estate Investment Groups (REIGs)
For those who want to own rental real estate without the hassles of being a landlord, Real Estate Investment Groups (REIGs) could be an option. These are small, private mutual funds that invest in rental properties. When you buy into a REIG, you own a part of the property, but the company managing the investment group handles all the maintenance, advertising vacancies, and dealing with tenants. In return, the company takes a percentage of the monthly rent.
Pros:
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Passive Investment: Offers a hands-off approach to owning rental properties.
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Pooled Capital: There’s more capital available for investments.
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Diversification: Allows investment in multiple properties.
Cons:
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Management Fees: REIGs charge fees for managing the property.
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Liquidity: Investments in REIGs are often less liquid. Access to funds depends on the REIG agreement. They require a longer capital commitment because there’s a direct investment in physical properties.
May Be a Good Option For: Investors who want to own rental real estate without day-to-day management. Suitable for those with some investment capital but not enough time or interest in direct property management.
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Real Estate Investment Trusts (REITs)
REITs are companies that own, operate, or finance income-generating real estate across various property sectors. Investors can buy shares in these publicly traded companies, gaining exposure to real estate investments without the need to directly purchase or manage properties themselves.
Pros:
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High Liquidity: REITs are traded on major stock exchanges. You can pull your money out anytime.
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Dividend Income: Some funds may pay out high dividends.
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Diversification: Investing in a variety of funds can give you exposure to different real estate sectors.
Cons:
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Market Volatility: Subject to stock market fluctuations.
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Limited Control: Investors have no say in the management of properties.
May Be a Good Option For: Investors seeking a more hands-off, portfolio-based approach. Suitable for those looking for real estate exposure without the complexities of direct property ownership.
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Real Estate Crowdfunding
Real estate crowdfunding is a relatively new way to invest in real estate. This method allows investors to pool their money together to invest in large projects, typically managed by real estate developers. It’s a way to access high-value real estate investments with relatively small amounts of money. However, these investments can be riskier and less liquid than other real estate investment options.
Pros:
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Accessibility: Allows investment in large projects with smaller capital.
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Diversification: Access to different types of real estate projects.
Cons:
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High Risk: Dependent on the success of the development project. Many of the crowdfunding platforms are also new and lack a solid financial history, making them inherently more risky.
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Less Liquidity: Investments are typically locked in for a period of time.
May Be a Good Option For: Investors looking to diversify into real estate with less capital. Suitable for those comfortable with higher risks associated with development projects.
Real Estate Investment Tips
The real estate market is constantly changing. While it’s not always easy to ensure positive returns or predict future success, there are steps you can take to help mitigate your risk and improve your returns. Here are three tips that every real estate investor should familiarize themselves with before investing:
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Diversify to Manage Risk
In real estate investing, diversification means spreading your capital across various types of property investments or different geographic locations. This helps reduce risk by not having all your assets tied to one property type or market.
Diversification can help to shield against significant losses and stabilize your income stream. With a mix of properties, you will likely enjoy continuous income even if one sector underperforms. Different property types and markets often have varying cycles of growth and decline, so diversification allows you to capitalize on different market conditions, potentially increasing your overall returns.
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Borrow Money to Increase Potential Returns
Leverage means using borrowed funds (like a mortgage) to purchase a property. This allows investors to generate returns on an investment that’s bigger than what they’d be able to purchase if they were just using their own money. This can result in higher returns. For example, with a 20% down payment, you generate returns on a property that’s worth five times that amount; that’s more than you’d be able to generate if you were to buy the property outright with cash. Borrowing money, however, carries its own risks, so it’s important to carefully read the mortgage terms and conditions to ensure that you understand what risks borrowing entails.
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Save Money With Tax Advantages
Real estate investing offers various tax benefits, such as deductions for mortgage interest, property tax, operating expenses, repairs, and depreciation. These deductions can reduce your taxable income from the property. There are also strategies like a 1031 exchange, which allow investors to defer paying capital gains tax when they sell a property as long as they reinvest the proceeds in a similar property. Using tax advantages effectively can increase your net income from your investments by reducing the amount of money paid in taxes.
Investing in real estate is a tangible way to build wealth and work towards financial freedom. It can provide a safety net allowing you to live life on your own terms. By conducting careful research ahead of time, and with the right approach, you can make strategic real estate investments. Get started today and turn your dream of financial freedom into reality.
Want to learn more about rental property investing? Head over to our Renters Warehouse Education Center for more tips. If you’re ready to invest in rental property, check out our available properties for sale in your area.
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