Real Estate: Business or Investment?

After publishing the 12 Sites Every Financial Freedom Seeker Should Know About, Eric Bowlin reached out to me with a much deserved, “Wait, you forgot me!” type response. I appreciate him doing so as once I read the article he put together for me below, I felt as if I just left church where the message was pointed directly at me. Thank you Eric!

Below, Eric jumps into a topic I’m focused on with our Facebook Group (Real Estate Investing for the W2 Employee). Without further ado, here’s what Eric, from “The 13th Site Every Financial Freedom Seeker Should Know About“, has to say:

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IdealREI  // Eric Bowlin

Eric Bowlin is a real estate investor and entrepreneur who loves traveling, blogging and being financially independent. He started in 2009 with the purchase of his first 3-family home and has snowballed it into a portfolio of over 470 rental units.

Eric is also the founder of IdealREI where you can learn about financial independence and how real estate can help get you there.

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Real estate is an amazing vehicle for achieving financial independence – the point where your passive income exceeds your monthly living expenses. It is one of, if not the only asset that has an amazingly high dividend (rent income) but also has high appreciation potential.

In essence, it allows you to withdraw a huge cash flow without dipping into the principal balance.

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<enter Eric…>

Most of the success stories you hear about are of people who are working full-time in the real estate field. This is an unfortunate thing because while the most vocal are those of us absorbed in real estate 100% of the time, the majority of successful investors start as (or still are) W2 employees who use real estate to supplement or grow their investment portfolio.

So, the real question we need to ask – how do you invest in real estate part-time without having to give up a job or your life.

There are a ton of ways to do this, but first I want to explain something really quick:

Real Estate Business vs Investment

The first point to remember is that you can have real estate investments and you can have a real estate business (or both).

The problems most people face is when they blur the lines between these two concepts. Let me just quickly break it down:

• Buying real estate and receiving cash flow is the investment part.
• Everything else is part of the business of real estate.

Let’s just compare real estate to the stock market for a moment.

If you are investing a decent amount of money in anything other than an index fund, you will have to do the following:

• Determine your risk tolerance.
• Decide how to allocate the portfolio based on that risk tolerance.
• Spend dozens of hours up front researching companies.
• Invest your capital.
• Spend a couple hours per week (per stock) researching the companies you own.
• Rebalance once or twice per year

It doesn’t sound very passive, does it?

Wealthy investors hire asset managers to do all of this for them. Regular people like us alleviate some of this work by investing more passively in ETFs, Index Funds, or Mutual Funds.

Real estate is exactly the same:

• Determine your risk tolerance.
• Decide how to allocate your money across various real estate asset classes.
• Spends dozens of hours researching properties, making offers, etc.
• Purchase the deal.
• Spend a few hours a week doing maintenance, taking calls, etc.
• Rebalance every few years (refinance or sell).

Similar to stocks, there are a number of ways that people us can reduce the workload and grow a portfolio. But, no matter what, you will have to be involved somewhat since it’s your money.

1. Outsource Management

Receiving calls, filling units, doing repairs, maintenance, inspections, etc are all related to the business side of real estate.

It’s also the most time-consuming (and frustrating) part of the business.

If you want to do real estate part-time but still maintain total control over the property, simply outsource the management and focus on the rest.

You can spend some time up-front finding and analyzing deals, making offers, etc. Then, once the property is purchased you can hand off everything to 3rd party management. Most property managers will help you oversee major renovation projects, and deal with everything on the property for you.

You can maintain total control over the deal because you can hire who you want and fire them at any time. It’s your deal, your property, your tenant, and your money.

2. Outsource Deal Finding

You’ve already outsourced property management (smart move), now it’s time to have other people bring you the deals.

While property management is probably the most difficult, in a hot market, finding deals can be the most time-consuming (though most fun!).

Here are 3 easy ways to outsource this.

This is kind of on a sliding scale. You retain the most control with the first option, but by the last option you are starting to give up more and more control, but spending a lot less time in real estate.

Find a wholesaler

Wholesaling is a term used for any time a person puts a deal under contract, then sells that contract to someone else for a fee.

Basically, a wholesaler uses direct mail marketing, a real estate lead generation website, social media marketing, or strong personal relationships to find motivated sellers. They lock the deals up under contract then turn around and sell it to someone like you.

But…

Wholesalers, by and large, have a terrible reputation.

It’s really not their fault, but the vast majority of wholesalers are very new to real estate and are using it is a low-cost way to break into the market.

I have nothing against that, and I think wholesaling is a great way to make money, but you need to really know the wholesaler and see a history of success and accurate number before you jump in and buy from them.

Using a wholesaler is going to give you the most control but also require the most time/effort screening wholesalers, analyzing deals, etc.

Partner with an active investor

The next way is to partner directly with an active investor. It will be a little more passive than using wholesalers, but you can still be actively involved with the projects.

There are a lot of ways to structure a deal like this. In general, a very active investor will have a lot more deals than money. You, being the new investor, will likely have a lot more money than deals.

You will give up some control because an active and successful investor won’t want you telling him/her what to do every step of the way. But, you’ll be partnering with someone with a proven track record and be joining in on the upside potential.

You’ll also retain some control since it is a partnership after all.

Work with a syndicator

With this, you will give up the most control as you cannot be actively involved in management, but you can still be involved in deal selection, screening syndicators, etc.

A syndication is any deal where money is invested passively with a group of sponsors who are managing members.

The general partners accept the most risk, spend the time finding deals, securing financing, managing, etc. The limited partners can choose which particular deal they want to invest in which lets you create your own portfolio based on your own risk tolerance and objectives.

I put this last because it’s the closest to totally passive without giving up total control.

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3. Outsource Everything

The only way that I’m aware of is either investing in an exchange-traded REIT or investing with a crowdfunding platform.

As a little caveat, crowdfunding platforms are bringing you 506(c) syndication or Reg A+ REITs which means you are either investing through a REIT or through a syndication, but they’ve added another layer of diligence.

REITs

A REIT, also known as a real estate investment trust, is a pass-through entity where the vast majority of returns are passed through to the shareholder and almost none is retained within the entity itself.

They come in two general varieties – Exchange-traded and non-exchange traded REITs. As the name implies, an exchange-traded REIT is listed on the stock exchange and you can trade its shares freely.

A non-exchange traded REIT is a bit more complicated as its shares are not liquid. Additionally, some may be open-ended, meaning you don’t actually know if/when you’ll ever get your principal balance back because there is no strict end-date.

REITs are a good way to get some exposure to real estate in your portfolio without actually being involved in real estate but they carry some risk unless you only invest in exchange-traded REITs

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Crowdfunding

This is a really interesting topic because people have been “crowdfunding” privately for centuries. Over the last century or so they’ve been called syndications, but these were always structured privately due to regulations.

With the passing of the JOBs act which spawned the new 506(c) exemption and regulation A+, old-fashioned syndications became “crowdfunding” if/when done online.

To participate in a crowdfunded syndication, you need to be an accredited investor. This is how the SEC chose to limit risk to investors. Basically, anyone can openly advertise a private equity as long as the investors are all accredited (make over $200k/year or $300k if married or have over $1m net worth excluding your home).

The idea was little ol’ gramma wasn’t being suckered into giving up her last $20k by some online ad she saw.

This is good and bad. The great part is you can choose exactly which deals you want to participate in and how much to put in every deal. The drawback is you already need to be relatively well off and have a lot of cash or a high income.

For reg A+ styled funds or REITs, there are no accreditation requirements, but they are pretty heavily regulated in how they can operate (meaning lower return potential).

It’s amazing because these private offerings can now be available to a huge group of people that never had access to these comparatively high-yielding investment vehicles. But, you do not decide how money is allocated.

Instead, you have to choose them like you would any other fund or REIT and hope the managers do a good job.

The More You Outsource The Less You Earn

It’s fairly obvious but it’s worth saying – The more passive the investment is, the less it will probably pay you.

It makes sense though, right? The less effort you put in and the less risk you take, the lower returns you can expect.

But, It makes sense to take a lower return if your time is more valuable spent doing your day-job. You can focus on earning money and investing it on the side while others take care of the details.

On the other hand, if you have a lot of knowledge or time, you may want to be more involved. You can earn a bit higher returns then leverage that extra money into even better future returns. By doing this you can retire sooner, but you need the spare time to do it.

Take a good look at yourself and your life and decide how much time you can spend in real estate. Do this before buying anything. Then choose how passive you want to be in your investments.

Trust me, you don’t want to be stuck in some deal that’s stalled which needs a ton of your time/effort. Especially when you can barely find spare time to finish your day-job.