Investing in Real Estate and Whether it's Right for Your Portfolio

Everywhere you look, it seems like someone is investing in real estate. Rental homes, Airbnbs, corporate buildings, and flipping houses are part of everyday conversations, and you’re beginning to wonder if real estate is something that should be part of your portfolio, too.

When done well, this type of investment can be extremely profitable. But it often requires significant cash upfront and is rarely “simple.” Real estate investors must understand the ups and downs involved and ensure they’re ready to handle things like renovations, maintenance, management, and taxes.

Is your portfolio in need of real estate to finish its diversity? Consider these truths of investing in property before you make that decision.

Real Estate is Really About Location, Location, Location

Here’s a hard truth. Just because you buy property doesn’t mean you’ve invested in it to build wealth. Sometimes, that purchase becomes a proverbial money pit, and no one else wants to buy it from you for more than you paid for it, plus any extra expenses you’ve put into the property. So, it becomes a loss instead of an asset.

There is no guaranteed profit when you invest in real estate. However, the more you research the land, buildings, structure, and interests in the area, the better you can determine whether to make the purchase. Statistics like cost-of-living indexes (explained in this article by OJM Group) can help you understand this part of your investment.

Is the location in demand? Who is likely to want to buy the property? How much will they be willing to pay? After you make the necessary renovations (if any), is there a profit margin between the sale price and your costs? If you plan on renting, what is the going rental rate for residential or commercial buildings of that size? Does that cover your mortgage and property taxes, plus management costs?

Research into location and demand is vital to deciding whether to invest in real estate. Unlike buying a primary residence, you don’t need to keep the property long-term, so appreciation isn’t as much of a concern. Yet, your investment becomes a loss if you can’t sell or rent your structure or land.

Hands-On or Hands-Off?

The next question to consider is what type of effort you want to put into your investment. Real estate can be hands-on or hands-off, depending on the property and purpose. For instance, if you simply want to buy a house or commercial structure and flip it without any work outside of the realtor and broker, you’re mostly hands-off. But if you’re investing in a fixer-upper, you’ll need to be involved in the renovations, even if a contractor does the work.

Rentals are also more hands-on. You’ll have to vet and manage tenants, handle repairs, collect rent, and possibly handle legal issues if your tenants cause trouble. Yes, you can hire a management company to do this for you. Still, ultimately, your name is on the property, and the responsibility to ensure they’re following through with their obligations falls on you.

If you plan on working elsewhere full-time or have a busy life that doesn’t leave time for management, rentals may not be for you. You still have the option of investing in wholesale properties, crowdfunding, and flipping homes. Many of today’s investors prefer REITs (real estate investment trusts), companies that handle corporate real estate ownership, operation, or financing. As an investor, you’d receive dividends from their business and learn about the real estate industry before jumping in headfirst.

Know the Tax Laws

Finally, consider the tax implications of real estate for both buying and selling. When you invest in real estate, it can (but isn’t always) a deduction, which may offset some of your income tax responsibility. But you're taxed on that gain when you sell it at a profit. Factors like depreciation, expenses, and other tax benefits can reduce what you owe. If your property is a loss, you may even be permitted to recoup part of your investment with your other income tax obligations.

Even REIT dividends are taxed at the shareholder’s level. Most real estate types are considered passive income, which has a separate set of taxable rules. State and federal tax laws and your comfort level with them can impact whether or not real estate investing is a good choice for you.

Conclusion

When you hear everyone talk about real estate, it can seem like there’s no skill and minimal risk involved. Investing in property successfully without relying on luck means having the skills to understand market demand trends, property and tax laws, and hands-on management. Before you enter the world of real estate, talk to your financial advisor, accountant, and attorney, and get a holistic picture of how your investment could impact your financial situation in the short- and long-term.