Real estate is arguably one of the oldest and most diverse industries anywhere in the world. There are so many ways to invest in real estate, sometimes even the most experienced investors have trouble knowing where to begin.
In this article, we’ll help make real estate investing less complicated by discussing the four types of real estate, explain why so many people are putting money into real estate, then talk about some of the best ways to invest in income-producing property.
What is Real Estate Exactly?
Real estate is made up of two different components: Land, such as a lot in a subdivision; and Improvements, such as a single-family house built on the lot.
There are also specific physical and economic characteristics that make real estate different from any other asset class:
- Unique: one piece of real estate is never exactly the same as another
- Scarce: land is in fixed supply, and only so many structures can be erected on a single parcel of land
- Improvements: made to the land can increase value, such as generating more income or changing to a higher and better use
- Permanent: once infrastructure such as water and sewer systems, and sidewalks and streets are constructed, they are difficult to replace and can’t be relocated
- Immobile: real estate can not be moved from one place to another
- Indestructible: land is permanent and forever (except in cases of erosion)
- Location: supply and demand for real estate is affected by user preferences such as good neighborhoods and school districts, population and job growth, and business-friendly governments
The Four Main Types of Real Estate
Investing in real estate can sometimes feel a little overwhelming, simply because there are so many options available.
If you’re just getting started in the business, it’s helpful to understand the four main types of real estate and how they work. Then, you can determine the real estate asset class that’s best for your investment strategy:
The residential real estate market in the U.S. is just plain huge. According to the World Property Journal, the combined value of the housing market hit $33.6 trillion this year, larger than the annual GDPs of the U.S. and China combined.
When you look at the different options for investing in residential real estate, it’s also easy to understand why the value of the U.S. housing market has grown by more than 50% over the last 10 years:
- Single-family houses
- Cooperatives (Co-op)
- Mobile homes
Best sources for finding residential real estate include: Real estate agent, local MLS, Craigslist, Zillow, Realtor.com, Trulia, Redfin, Auction.com for foreclosures, HUD for federal property sales, and Roofstock for single-family investment and rental properties.
The commercial real estate (CRE) market is best known for world-class shopping centers in California, trophy office properties in Manhattan, and oversized investor personalities.
So, you may be surprised to learn that the size of the U.S. commercial real estate market was recently estimated to be between $14 trillion and $17 trillion – only about half the size of the residential market.
Part of the reason the commercial real estate market is smaller is that, while everyone needs a place to live, not everyone needs a place to shop – at least at the same time. Commercial real estate is defined as property used for business purposes, including:
- Office space including medical centers, suburban office parks, and urban office towers
- Retail space including fast food outlets, neighborhood strip malls, and regional power centers
- Apartment buildings and smaller multifamily property with five or more units
- Mobile home parks
- Leisure and hospitality property
- Self-storage and mini-storage facilities
- Parking lots and garages
- Grocery stores and gas stations
- Movie theatres
Due to the specialized nature of CRE property and the financial size of the transactions, oftentimes commercial real estate for sale isn’t publicly listed. Instead, large CRE firms such as Cushman and Wakefield, CBRE, Avison Young, and Marcus & Millichap work with buyers, sellers, and institutional investors and lenders directly.
Some of the best online sources for learning more about the commercial real estate market include: LoopNet, CREXi, RealtyMogul and Fundrise for CRE crowdfunding, and the U.S. Department of the Treasury Community Development Financial Institutions Fund (CDFI Fund) for Opportunity Zone investments.
Although industrial real estate is used for business purposes like commercial real estate, it is usually treated as a separate type of real estate class because of the specific way property is used:
- Manufacturing such as the Tesla factory in Fremont, California
- Production facilities and food processing centers
- Freezer and refrigerated storage facilities
- Storage warehouses and distribution centers like the 4.3 million SF Boeing Everett Factory in Washington
- Research and development parks including the Research Triangle Park in Raleigh-Durham
- Power plans and solar generating stations
- Data server centers for companies such as Google and Facebook
Vacant or raw land is purchased for future development, and for natural resources rights such as mineral, water, or air rights in urban areas. Investing in land is a popular long-term strategy, because taxes and maintenance costs are usually very minimal, compared to developed properties with buildings and tenants.
- Undeveloped raw land
- Recreational parcels for camping, hunting, and fishing
- Farms and ranches
- Planned urban development (PUD) for residential or commercial development
- Lots in a subdivision
In states with large amounts of vacant land - such as Arizona, Texas, Tennessee, and Florida – local land brokers are a good source for locating and negotiating the purchase of land. Popular online resources for finding land for sale and land auctions include: Land.com, LandWatch, and Lands of America.
What is “Special Use” real estate?
Real estate that is multipurpose or built for a specific use is categorized as special use real estate. Sometimes called “purpose built” real estate, special use properties can be found in each of the four types of real estate classes including:
- Mixed-use and projects that combine office, retail, and residential
- Transit-oriented development (TOD) is a type of mixed-use property located near mass transit stations
- Car washes and gas stations
- Recreational facilities such as sports arenas, golf courses, and tennis clubs
- Government buildings such as courts and post offices
- Places of worship
- Public and private schools
- Student housing near major colleges and universities
- Senior and assisted living facilities
- Car washes
How the Real Estate Industry Works
There are six main areas in the real estate industry that all interact with one another:
- Developers who purchase raw land, construct new buildings, then re-sell or lease the new product to end users or tenants
- Sales and marketing firms who handle the sale of newly developed real estate projects
- Real estate brokerage firms employ licensed agents and unlicensed assistant to help investors and homeowners buy, sell, and rent all types of real estate
- Property management companies handle the day-to-day operations of rental property including rent collections, working with vendors to arrange repairs, and managing tenants
- Real estate lenders provide financing to acquire property and include institutions such as local credit unions and community banks, large national banks, and mortgage brokers who help property owners find the best loan options available
- Professional real estate service providers include accountants and financial planners, attorneys, title companies and escrow officers, and handymen and general contractors
Jobs and careers in real estate
As your real estate investing business continues to grow, the odds are you’ll work with many different types of real estate professionals including:
- Accountant, bookkeeper, CPA
- Asset manager
- Escrow officer
- General contractor
- Home inspector
- Leasing agent
- Loan underwriter
- Mortgage broker or banker
- Pest control technician
- Property surveyor
- Real estate attorney
- Real estate broker and agent, including selling and listing agents
Economic Impact of Real Estate Investing
The real estate industry is a key driver of growth in the U.S. By keeping a close eye on both short and long-term trends, investors can gain a general sense of what direction the economy is heading in, and what future opportunities are being created.
For example, if more luxury apartments are being built compared to affordable single-family homes, that may indicate a supply shortage of houses which could in turn drive up demand and prices.
On a global macro level, the U.S. real estate market is viewed as a “safe haven” for foreign investors, with investment property generating stable and solid returns compared to the lower and more volatile returns of equity markets.
Both local and foreign real estate investors benefit from the country’s stable legal system, diverse banking system, transparency and availability of information, and the liquidity and size of the economy in the U.S.
Performance of The U.S. Real Estate Market
- Housing’s combined contribution to GDP generally averages between 15% and 18% of the $20.54 trillion total U.S. GDP
- Residential investment accounts for between 3% - 5% of GDP, or over $1 trillion annually
- Consumption of housing services such as gross rents average between 12% - 13% or GDP, or over $2.5 trillion annually
- Value of the U.S. housing market is nearly $37 trillion
- New housing starts in the U.S. reached a seasonally adjusted annual rate of 1,496,000 according to the most recent information from the U.S. Census Bureau
- Single-family resale home sales reached a seasonally-adjusted annual rate of 4.28 million, according to the NAR
- Single-family rental property is much less volatile than stocks and bonds, with rental housing generating historic annual returns of between 10% - 18% over the past 25 years
- Single-family rentals also provide a superior reward/risk ratio of 1.4, compared to less than 0.8 for bonds and 0.5 for stocks
- An estimated 1.66 million people work in the real estate industry, earning an average salary of over $61,000 per year
- National real estate workforce is expected to grow by nearly 6.9% over the next 10 years
How to Invest in Real Estate
A generation ago, the options for property investing were limited. Today, thanks to the internet and exponential growth of the industry, there are a wide variety of ways to invest in real estate:
- Rental property: generates monthly cash flow and equity growth over the long term
- Fix-and-flip: for investors willing to accept a high level of risk in exchange for a potential quick one-time profit
- Wholesaling: requires very little cash to “tie up” a property before assigning the contract to another investor in exchange for a one-time wholesale fee
- Rehab or foreclosure: can offer the classic investment strategy of buying low and selling high
- JV partnership: when two or more investors join forces by combining their skills and capital to invest in bigger real estate deals
- Crowdfunding: pools money together from large numbers of investors to purchase and operate large complex commercial property such as apartment buildings, shopping centers, or new home developments
- REIT: real estate investment trusts are publicly traded on major stock exchanges and own income-producing property in specific asset subclasses such as health care, hotels, and residential rentals
As a real estate investor, it’s important to understand which type of real estate is right for you. Also, keep in mind that not every market is good for all four types of real estate.
That’s a big reason why many people begin by investing in residential real estate. The market is twice as large as commercial real estate, financing residential property is easy, and houses are a property type that investors and tenants know and understand.