Owning real estate can be a good way to diversify an investment portfolio with an asset that generates similar returns to the stock market but with less volatility. Investors also enjoy tax benefits unique to residential real estate, and investors can use leverage to boost overall returns.
While directly owning investment properties is the most common way of investing in real estate, there are a variety of ways investors aim to make money from real estate. Here are 10 real estate investing strategies used by both beginning and sophisticated investors.
- About 35% of the rental housing units in the country are single-family rentals (SFRs).
- Buy-and-hold real estate investors seek to make money from recurring rental income and long-term appreciation in property value.
- People without funds for a large down payment can invest in real estate by house-hacking a primary residence or purchasing shares of a real estate investment trust (REIT) or crowdfund.
10 real estate investing strategies
Real estate investing isn’t one size fits all; different strategies will work better for you than others, depending on your goals and time horizons.
1. Buy and hold rental property
Buying and holding SFR homes is a real estate investment strategy used to earn rental income, profit from appreciation in property value over the long term, and claim unique tax benefits that real estate investors enjoy.
SFR property is arguably the most popular real estate investment for beginning and sophisticated investors. According to the most recent U.S. Single-Family Rental Outlook report from Green Street, an independent real estate research and advisory firm, SFRs represent 35% of all rental units in the country.
SFRs may be relatively easy to find, own, and operate. There are many financing options available for residential real estate, from conventional and government-backed loans to private and portfolio lenders.
The median sales price of houses sold in the U.S. has increased by over 200% over the past 20 years, and the demand for rental property remains strong. Nonetheless, net income from rental property may fluctuate due to maintenance and repairs or potential vacancies, and some investors may prefer a more passive investment strategy.
2. Reinvest rental income
Reinvesting rental income is a complementary strategy that many buy-and-hold real estate investors use.
Also known as the “snowball effect,” net cash flow from one rental property is saved until there are enough funds for the down payment on a second rental property. Then, net cash flow is saved from both rental properties until there are enough funds for a third rental property.
As an investor’s rental property portfolio increases, the snowball of cash generated becomes larger and larger, similar to a snowball rolling down a hill.
Some owners also reinvest rental income by making additional mortgage payments to pay down a property loan faster. When there is enough equity from combined appreciation and mortgage prepayments, the investor does a cash-out refinance to turn accrued equity into cash to purchase another rental property.
One of the drawbacks to investing in rental property is that a large amount of capital may be required for a down payment. House hacking is a real estate investing strategy used by people who own their residence but don’t yet have the additional funds to purchase a rental property.
Examples of house hacking include renting out a spare bedroom or a basement converted into a studio apartment. Rental income from house hacking is saved until there is enough money for the down payment on a rental property.
Some investors also house-hack by purchasing a small, multifamily property using a Federal Housing Administration (FHA) or Veterans Affairs (VA) loan with a low down payment. One of the potential drawbacks to this approach is that one of the units must be occupied by the borrower as a primary residence. However, living next door to tenants is an excellent way to gain hands-on property management experience and learn about the real estate investing business.
Buy, remodel, rent, refinance, repeat (BRRRR) is a strategy real estate investors use to buy fixer-upper property using short-term financing, make any needed repairs, rent to a qualified tenant, then refinance and pull cash out once the property has a stabilized history of positive cash flow.
The BRRRR real estate investing strategy is similar to the snowball effect in that an investor does the same thing repeatedly. BRRRR is generally a better strategy for an active investor who has the time and knowledge to do things themselves or has a trusted, cost-effective network of contractors and handypeople to help with remodeling.
One of the drawbacks to BRRRR is that short-term financing typically has high loan fees and interest rates, so an investor must be careful not to run out of money until the property begins to cash-flow.
5. Fixing and flipping
House flipping is a high-risk real estate investing strategy that offers a potentially high reward, provided that everything goes as planned.
Investors who fix and flip homes don’t want to be landlords because they only plan on holding a property for a few months. After locating and purchasing an undervalued property, a flipper may make strategic renovations to increase property value to turn a profit or simply hold onto the property and try to make money from appreciation.
Investors who cannot flip a home quickly or who underestimate needed repairs can find themselves short on cash. That’s why fixing and flipping is best for those with extensive experience in estimating fair market property value, the actual cost of renovations, and sufficient capital to get the job done on budget and on time.
6. Real estate wholesaling
The real estate wholesaling investing strategy is a variation of fixing and flipping, except that a wholesaler never takes possession of the property.
Instead, a real estate wholesaler searches for a distressed property with a motivated seller, puts the home under contract at a below-market price, estimates needed repairs and final fair market value, and assigns the purchase and sale agreement to another investor in exchange for a small wholesale fee.
As with fixing and flipping, successful real estate wholesaling requires a tremendous amount of time, market knowledge, and solid negotiating skills to convince an owner to sell their property for less than the fair market value. In addition, in many states, a property wholesaler must be licensed.
However, real estate wholesaling may be a good investment strategy for people who don’t have a lot of investment capital. Some professional real estate wholesalers hire “real estate bird dogs” to locate distressed property, then pay the bird dog a small referral fee once the property is found.
Real estate investment groups (REIGs) are small funds that purchase groups of rental properties, then allow investors to buy through the group.
In exchange for a percentage of the monthly rental income, the REIG takes care of marketing vacant properties, screening tenants, collecting rents, managing property, and doing maintenance. Investors in an REIG make money from their shares of any recurring rental income and equity appreciation when the homes in the group are sold.
An REIG may be a good option for people looking for a hands-off real estate investing strategy, although it’s vital to research management and their previous track record of success or loss.
Real estate investment trusts (REITs) are publicly or privately held companies that invest in a wide range of real estate assets, including residential build-to-rent (BTR) subdivisions, commercial real estate, or special-use properties like data centers and cold storage facilities.
REITs are required to pay out at least 90% of their profits as dividends to shareholders. They can be a good way to diversify an investment portfolio to generate income from real estate without owning property. Investment-grade properties held by a REIT are typically leased to credit tenants on long-term leases. Shares of publicly traded REITs can be bought or sold on an exchange, making them more liquid than other types of real estate investments.
However, REITs don’t provide some of the same advantages of directly owning a rental property, such as having direct control over property management decisions.
Crowdfunds are online real estate investing platforms where investors pool money to own shares of high-quality commercial and residential assets, such as new home developments, apartment buildings, and stabilized commercial real estate.
Investing in a crowdfund can be an excellent way to gain exposure to properties that are not feasible for most investors to purchase directly. Crowdfund investors receive regular pro-rata distributions of net income, provided that a project is profitable, and a share of any profits when a project is sold.
One of the drawbacks to crowdfunding is that shares tend to be illiquid and may be subject to lockup periods until a project is stabilized or during periods of economic uncertainty. Investors also must depend on the experience of the crowdfund sponsor to identify profitable opportunities, finance and develop the project, and lease and manage the property to maximize asset value and cash flow.
10. Private lending
Private lenders invest in real estate debt instead of equity. Rather than purchasing rental property themselves, private lenders loan money to real estate investors looking for an alternative to traditional financing sources, such as home flippers.
As with a traditional bank, private lenders make money from loan fees and interest rates. However, fees and interest rates are generally higher.
While private lending may be a good way to generate recurring interest income, there is risk that a borrower will default and a private lender will have to take back a property that is only partially renovated. That’s why private lenders have real estate investing experience themselves and understand how to protect themselves if a property needs to be foreclosed.