Reasons to Invest in Real Estate
By Emily Southey | 10 minute read
When you hear the word “investing,” chances are you think of stocks, bonds, or mutual funds. But what about real estate? Investing in real estate is a great way to diversify your portfolio and grow your wealth. Keep reading to learn more about the pros and cons of investing in real estate and some of the key points to consider before doing so.
Real Estate Investing Defined
What is real estate investing? Let’s start with the basics. Investing is defined as the act of expending time, money, and resources with the goal of making a profit. Time, money, and resources can be spent on everything from stocks and bonds to property in an effort to achieve your financial goals. Risk and reward are the core tenets of investing. Generally speaking, low-risk investments often yield low rewards while high-risk investments reap the opposite.
What Does It Mean to Invest in Real Estate?
Now that you know what investing is, let’s consider what it means to invest in real estate. As with any investment, the goal of real estate investing is to turn a profit. The best way to do so is to buy a property at a low price, let it appreciate, and sell it at a higher price.
Keep in mind that this cycle of buying low and selling high can be applied to many types of property, including primary residences. However, most of the time, real estate investing does not mean purchasing a home to live in. Rather, it means purchasing a property strictly for investment purposes. Why? With the former, the home may appreciate to your benefit but you can’t take advantage of the tax breaks that come with an investment property. And if you’re living in the property, you likely aren’t generating any rental income, which means you are paying for expenses out of pocket that can reduce the home’s value. Oppositely, if you purchased a rental property, the cost of rent that your tenants pay could be enough to offset the cost of the property taxes, utilities, home insurance, mortgage interest, and more. You would not have to dig into your own pockets to pay for these, as you would with the house you live in.
Ultimately, when you invest in real estate, you are purchasing a property — whether it be a residential, commercial, or another type entirely. This can make real estate investing seem intimidating, but the reality is that property investments are more accessible and popular than you might think. Plus, there are plenty of exciting ways to invest in real estate, some of which are outlined below.
- Purchase a real estate investment trust (REIT) for high-dividend payouts and potential stock appreciation
- Purchase an exchange-traded fund (ETF) composed of REITs for a passive form of real estate investing
- Buy a property, renovate it, and sell it quickly at a higher price point (also known as house flipping)
- Buy a property and rent it out to tenants, generating monthly cash flow while it appreciates
- Buy a property to live in and rent out part of it, such as a spare room or basement suite
Is Investing in Real Estate a Good Idea?
Yes, generally speaking, investing in real estate is considered to be worthwhile. If a real estate investor times it well and purchases a property at a low price and later sells it at a higher price, they can turn a serious profit. Ultimately, as long as you buy the property at a good price in a location that is going up in value, real estate is a smart investment (not to mention a lucrative one).
Real estate is also seen as a relatively safe form of investing. The real estate market tends to be less volatile than the stock market, and investors can easily minimize risk by keeping their properties longer should the market take a turn. Plus, as you pay off your mortgage, you continue to build equity, which could make it easier to leverage your property as capital down the line.
“With investment properties, unlike primary residences, you can deduct certain operating expenses (think property taxes, legal fees, insurance, maintenance costs, mortgage interest, property management fees, and more).”
The Pros and Cons of Real Estate Investments
As with any type of investment, investing in real estate comes with a unique set of pros and cons. We lay out the benefits and drawbacks of real estate investments below.
Pro: High potential for appreciation
One of the main pros of real estate investing is the high potential for appreciation. Real estate is very likely to appreciate with time, especially if you follow the “buy low, sell high” rule. For example, buying a fixer-upper, purchasing a property when interest rates are low, or doing some renovations or additions to a home can all increase a property’s value, allowing you to “sell high” when the market is hot.
Pro: It’s accessible
Another benefit of real estate investing is that it is accessible. In other words, the bar of entry is low. There is no certificate or licence needed to be a real estate investor. In fact, doing so doesn’t require much knowledge at all. And the knowledge that is required can be easily found on the internet or by consulting with a realtor. Further, if you have the money, there are all kinds of property management firms that specialize in investment properties, which means all you need to do is figure out the basic process of buying and selling a home.
Pro: Control over your investments
Becoming a real estate investor offers the added bonus of having greater control of your investments. Having more control over whether your investments succeed can help you turn a greater profit. Unlike stocks, where so many factors are out of your control, when you invest in real estate, you have sway over how much money is spent and what it is spent on. For example, you can choose how much rent to charge your tenants or what renovations to do (if any), as well as which contractor to hire. Ultimately, when you invest in real estate, you become your own boss.
Pro: Steady flow of cash
A steady flow of cash is another pro of investing in real estate. If you’re looking to increase your monthly income, purchasing an investment property can be worthwhile. Whether you purchase a residential or commercial property, you will likely be renting it out to tenants, which translates into monthly rental income. From there, you can use this cash flow to cover the costs associated with the property, like mortgage or insurance payments.
Pro: Tax advantages
Take advantage of unique tax breaks only offered to real estate investors. With investment properties, unlike primary residences, you can deduct certain operating expenses (think property taxes, legal fees, insurance, maintenance costs, mortgage interest, property management fees, and more). Plus, when you eventually sell your investment property, assuming you sell it at a higher price than you originally paid, the profit won’t be taxed as income. Instead, it will be taxed as a capital gain, which usually has a lower tax rate.
Pro: Diversifying your portfolio
We all know about the importance of diversifying one’s portfolio, and investing in real estate allows you to do just that. Investing in stocks, bonds, mutual funds, or guaranteed investment certificates can have major advantages, but if you exclusively deal with the stock market, it could lead to trouble. That’s where real estate investing comes in. Real estate investing can be just as lucrative as investing in stocks or bonds, however, it is less volatile. This means that in the event of an economic downturn or recession, your finances would be protected.
Con: Being a landlord
One of the biggest cons of being a real estate investor is that in some cases, it makes you a landlord. As a landlord, you will have a series of obligations and responsibilities that can be stressful and time-consuming. For example, being a landlord might mean dealing with rowdy tenants, paying to repair damage, or managing the day-to-day of the property. You will also have to deal with finding tenants to fill your property, which could involve showing prospective tenants around the property and reviewing applications. Luckily, there are ways to get around being a landlord. If you want to purchase a rental property but know you don’t have the time or patience that being a landlord requires, you can hire a property management company to oversee the operation of your property on your behalf. Another option is taking a passive approach to real estate by investing in REITs.
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Con: Larger upfront costs
Another drawback of investing in real estate is that the upfront costs tend to be much higher than other types of investments, such as stocks or bonds. When you enter the stock market, you can purchase as little as one stock for a nominal fee. However, purchasing property doesn’t come cheap — no matter where in Canada you live. Plus, there are other costs to account for beyond the purchase price, such as legal fees, property taxes, down payments, earnest money deposits, and mortgage insurance. Therefore, the reality of becoming a real estate investor is that it is costly, and you are not likely to see a return on your investment for years.
Con: Lack of liquidity
One final con of investing in real estate is the lack of liquidity it offers. Real estate is a long-term investment. Unlike a stock, it’s not something you buy one day and decide to sell the next. As a long-term investment, your money is likely to be tied up for a number of years. If there is an emergency, you won’t be able to turn it into cash quickly.
Frequently Asked Questions
What are the advantages of real estate investing?
The advantages of real estate investing include but are not limited to additional income, portfolio diversification, a steady flow of cash, greater freedom and control, protection against inflation, and ample tax benefits.
What are pre-leased commercial properties, and are they worth investing in?
Pre-leased commercial properties are properties that have existing tenants, thereby ensuring fixed income or returns. They can be worth investing in for the benefits they offer, such as convenience, no waiting periods, steady income, and higher capital appreciation. However, investors must do their due diligence to ensure the existing tenants are high quality and will not default on their rent payments.
What is the cash flow of real estate investments?
The cash flow of real estate investments is the money that is both generated by and spent on your investment property. An example of cash flow generated by a real estate investment is the monthly rent paid by tenants. Monthly cash flow is one of the greatest benefits of real estate investing.
Is investment in commercial property a better option now?
This ultimately depends on the investor. Some investors consider commercial properties to be the better investment owing to how lucrative they are (they often result in higher gains than residential properties). That said, managing a commercial property is typically more work than managing a residential property and requires greater upfront costs, which not all investors are willing to put up with.
What is inflation hedging in real estate?
Inflation hedging is the practice of strategically investing in certain assets with the goal of offsetting the risk of negative price movements. Inflation is a factor that must be considered when purchasing real estate, especially if your real estate investing goals are long term. Investing in single- or multi-family homes is often considered to be a hedge against inflation owing to its low-risk nature and limited correlation to other, more volatile assets like stocks.
On the other hand, real estate crowdfunding is not without risk. The most obvious risk is that you could lose some or all of your money if the property does not perform well. The reason for this could be the market taking a turn and the property depreciating in value, or high vacancy rates making it difficult to find tenants. There is also a risk that the property you invest in could get foreclosed by the banks due to an unpaid mortgage. In this case, it would likely be sold at or below market value, which could translate to major losses for investors. Further, real estate crowdfunding platforms are not regulated by the government, which makes them a bit less safe or secure than other kinds of investments. In addition, since crowdfunding is a newer trend, many platforms haven’t been around that long and do not have proven track records. Finally, as with any real estate investment, these investments are not liquid and may take some time until you earn a profit.
Is real estate a passive income source?
It can be! Investing in real estate can be active or passive. For example, if you want to be a passive investor, you might wish to invest in a REIT rather than buy property yourself. Alternatively, if you wish to purchase a rental property, you could hire a property management company to run things day-to-day, allowing you to take a back seat.
What is indirect real estate investment?
Indirect real estate investment is a passive form of investing in which an investor buys shares in companies that invest in real estate. Indirect real estate investment is the opposite of direct real estate investment, which involves buying and managing the property yourself.