A real estate portfolio with several properties can provide enough cash flow for a comfortable retirement. Some investors generate enough rental income to leave their jobs and focus on real estate full-time. Reaching that point starts with due diligence and buying the first property. You will learn many lessons along the way, but knowing the playbook in advance can help you avoid some of the growing pains. We will share some ways to scale your real estate portfolio and transition into becoming a passive investor.
What are the Benefits of Adding Real Estate to Your Investment Portfolio?
Real estate is one of the most proven investment classes that will always remain viable. People need places to live, and companies need locations to store inventory. It’s easier to enter residential real estate than commercial real estate.
Many investors gravitate to real estate for cash flow and inflation protection. Effective research and marketing can turn real estate into predictable cash flow. Property prices tend to appreciate over time due to the asset’s limited supply. Demand can also surge in an area, prompting higher rent and selling prices. While holding onto your properties and building equity through monthly payments is enticing enough, you also get several tax advantages. Real estate provides many write-offs you can use to protect your profits.
Starting Your Real Estate Portfolio
Investing in real estate is a long-term commitment that creates more opportunities. In addition, this asset can provide greater financial flexibility and freedom. Here’s what you need to know before you enter into real estate investing.
Know Your Objectives
Not every real estate investor has the same objective. Some investors focus on acquiring properties that generate positive cash flow from long-term tenants. This format can provide consistent income, and you can even earn passive income from this strategy. Other investors don’t want to deal with tenants and prefer to flip fixer-uppers. These investors won’t have consistent cash flow, but a big payday from a fixer-upper gives them more proceeds to invest in additional projects.
Your real estate investing strategy should align with your financial objectives. For example, investors should consider when they want to retire and what they want their lives to look like in a few years. Real estate investing can make those visions come true, but you need to know what they are so you invest accordingly.
Learn the Numbers
Location is the most important factor that influences demand and prices, but you also have to know the numbers. If you don’t do your research and learn the basics, you can end up paying too much for a property and get stuck with negative cash flow. While most people focus on property value and rental income, you should know a few other numbers:
- Cap rate: This metric helps you calculate a property’s return on investment. A good cap rate is usually between 5% to 10% but varies based on location.
- Cash flow: Positive cash flow allows you to scale, while negative cash flow can gradually destroy your portfolio. You can calculate your cash flow by deducting total expenses from your gross rental income. Cash flow is your net income.
- Local real estate market stats: Occupancy rates, rental prices, and other details vary by location. Understanding the numbers in your property’s location can help you set the right rent prices. You will have to follow multiple local markets if you spread your investments across several areas.
Create a Financial Plan and Investment Strategy
Real estate investors have many choices. They can buy and hold rental properties to generate cash flow, invest in fixer-upper properties and stage quick exits, or employ passive investing strategies. Instead of letting real estate investing strategies dictate your results, create an investment strategy around your financial plan. A financial plan is your approach to acquiring financing for properties and deciding how much risk you want to incur.
Some investors quickly purchase new properties and get into significant debt. This strategy can accelerate your path to wealth if you generate positive cash flow. However, while high leverage can be rewarding, it also presents significant risks if you can’t fill vacancies or get stuck with negative cash flow. Other investors make higher down payments and scale their real estate portfolios without getting into a dangerous amount of debt.
Determine How to Allocate Your Assets
Investors can buy properties, land, stocks, and other assets. While some people scoff at investors who hold onto cash during bull markets, this approach gets more appreciation during bearish markets. Your asset allocation depends on your risk tolerance and available opportunities. Buying too many properties in the same area makes you dependent on a single market. Buying properties in multiple locations will diversify your portfolio.
You can also purchase stocks and hold onto cash. Spreading outside of real estate investments helps you capitalize on more opportunities while protecting yourself from risks in real estate. Investors should spread their resources across many assets and industries instead of taking an all-in approach with a single asset, location, or industry.
Decide How to Manage Your Portfolio
Real estate investments require considerable work to keep the property in good condition. Some investors do the work themselves or hire a property manager. You can also partner up with a real estate syndicate and become a passive investor. Passive real estate investors who partake in these partnerships get the cash flow and appreciation without any additional work.
Scaling Your Real Estate Portfolio
Most real estate investors expand after buying their first property. They see initial success or hear about others thriving in real estate. Scaling your real estate portfolio results in more cash flow and higher net worth. You can use the following tactics and resources to scale your portfolio over time.
Use Leverage to Build Equity
Many real estate investors rely on leverage to scale their portfolios. Investors can confidently incur more leverage if they generate positive cash flow. You will make a profit every month, and the mortgage payments will eventually go away. Most real estate investors opt for longer mortgage terms to reduce monthly costs.
Diversify Your Assets
Many real estate investors get started with single-family homes. Your house is a real estate investment, but not one most people associate with cash flow. Buying another single-family home and renting it to a tenant represents the next step in your investment journey, but investors have many paths to consider.
- Commercial Real Estate: Office buildings and other commercial properties can attract long-term tenants. These properties have higher barriers to entry due to their price tags, but they can be rewarding.
- Multifamily Properties: These assets produce monthly cash flow from tenants who pay to live in your units.
- REITs: Real estate investment trusts let you invest in companies that hold onto real estate. REITs trade on the stock market and must pay 90% of their taxable income to shareholders as dividends. REIT investors get stock price appreciation and cash flow in the form of dividends. REITs are highly liquid, making it easy to enter and exit positions within minutes.
- Raw Land: Raw land is an overlooked real estate investment opportunity that is more affordable for beginners. You can build a property on raw land or flip land to another buyer. Some people hold onto land for several years without making any changes. Since land is a limited resource, it can rise in value even if you don’t construct any building or home on the site.
Employ Real Estate Analytics
Real estate investors use several data points to guide their decisions. Analytics from local markets can inform you about promising locations and overpriced assets. Using analytics instead of making a blind decision can help you make better deals and increase your positive cash flow.
Get a Team of Experts
Real estate is a people-oriented investment. Knowing local real estate agents can help you fill up vacancies quickly. You will also need plumbers, electricians, and other handy workers to address property issues. You can manage a property on your own, but you’ll need a property manager or company to scale your investments in the future. Assembling the right team will lead to a smoother real estate investing experience.
Assess Your Investments Periodically
Your real estate investments will change over time. Some assets become more promising as rent prices increase and the properties incur a few problems. Other assets can become money pits and can drag down your portfolio. Assessing your investments periodically helps you decide what to sell and keep. You can also review revenue and expenses from each property to discover ways to improve cash flow. Keeping an eye on your investments reveals opportunities for improvement and how to utilize your capital.
