New to investing in real estate? Start here!

A common question we hear asked is: “how do I get started with investing in real estate?”

If you’re not sure what your first step should be, or if you’re even interested in real estate investing, you’ve come to the right place. 

If you are like most people, your experience with real estate may be limited to just buying or renting a home. Investing is essentially a balancing act between risk and reward. Within the investing space, the different roles and functions you assume will determine your position within the extremes of this balance and the potential outcomes you experience.

In this article, we’ll touch on several key areas of knowledge that are at the core of real estate investing. (Click to jump to section.)

• Key investor roles 
• Primary return profiles of an investment
• Accessing invested funds
• Determining your reward and risk comfort zone
• Asset types and how are they affected by various dynamics in life
• Assessing the competency of a sponsor leading a deal

Key investor roles:

Generally, real estate investing roles fall into two categories: active and passive.

Active investing roles involve taking some form of management role to ensure the expected performance of an asset, which may involve things like coordinating contractors, managing properties, handling the project funding, collecting rents, and finding tenants. Those who put together commercial investment opportunities for syndication (which provides investors the opportunity to provide funding for an asset) are called sponsors and are responsible for ensuring that all the legal, compliance, and managerial roles are filled.

Passive investing means that you provide funding to active investors as capital. Your activity simply involves monitoring progress reports from the sponsor and collecting your distributions – affectionately referred to as “mailbox money.” Passive investors do not manage or control the investment except in extenuating circumstances, such as the inability of the sponsor to fulfill their role. A Private Placement Memorandum (PPM), provided to the passive investors before they commit funds to the deal, will explain what these circumstances could be and how the passive investors may or may not have recourse.

Primary return profiles:

Return profiles also fall into two basic categories, known as yield plays and value plays. Another category, called a hybrid play, describes some blend of these two.

Yield plays are designed to generate steady cash flow (generally from day one, or soon thereafter). Yield plays occur when an asset is already producing cash flow and needs very little rehab or upgrade. 

Value plays are designed to generate growth in equity and may not produce cash flow for 9 months or a few years, on average, because it takes time to either build or rehabilitate the property. Once value plays are stabilized, they accumulate much larger value in equity due to new cash flows. Value plays can return much larger Internal Rates of Return (IRR) than typical yield plays but distributions may not be received immediately.

Hybrid plays are a combination of both yield and value plays, meaning distributions start sooner but also include significant value being built up in the deal over time. 

Accessing invested funds: 

When deciding to invest in a deal, you must also consider how long your funds will be “unavailable” once they are placed in the deal.

Investing in real estate is not like the stock market where you can just “sell” a stock and get your funds back within 3 business days. 

Real estate investment opportunities are generally long-term deals (with very few exceptions).

For syndicated deals, in which you provide part of the capital, your funds will likely be ‘out’ (unavailable) for a period of 3, 5, or even 10 years. However, you will receive distributions that slowly return your initial investment funds over time, while continuing to build value for the long term. The sponsor holds the keys as to when the asset is eventually sold or refinanced. 

If the sponsor sees the right conditions for a cash-out refinance, you may receive a good chunk of your capital returned in 2 to 5 years while you will continue to “own your share” of the property for the longer term.

A cash-out refinance is nice because it allows you to take those funds and invest in another deal while still owning a portion of the original deal. And, those refinance funds you receive are not taxable because they are “loan funds,” which is an even better bonus. 

On the other hand, if the sponsor determines that it is best to sell the asset, then you will get a share of the investment returned at that time. The exact value will depend on the market conditions (interest rates, rental rates, economic health, and other factors). It’s not uncommon for a deal to sell early if its value has increased significantly since it was purchased. Given this situation, the sale of the deal will allow you to retrieve all your remaining investment and its gains, which you can then reinvest in new deals.

In some cases, the sponsor may even offer a vote among the passive investors to assess their interest level in various exit strategies.

Syndications may also have a minimum buy-in requirement that perhaps you may not be able to qualify for, which means you would likely need to explore other opportunities. 

If you don’t have enough funds to qualify for syndication deals, or the risk concerns you because of unfamiliarity in this domain, then “private lending” or investing in single-family deals can be a nice way to get started.

For single-family deals, you have a few options: become a landlord and collect rent (generating passive income), flip homes (buy fixer-uppers and re-sell them at a profit), conduct private lending to provide other house-flippers bridge loans, or become a partner in flips as a passive lender. 

If you have any interest in these strategies to get started with real estate investing, schedule a time to discuss and we can walk you through further details and provide some guidance on what may work best for your situation.

While Engineers in Real Estate’s primary focus is on educating and connecting investors with commercial deals, we do have opportunities and connections that can help you get started in single-family investments.

Risk and reward balance: 

When it comes to your investment funds, it takes time to define your level of comfort with risk and reward. Whether you are new to how deals work or have already participated in a few, it’s essential to know what to look for in an investment deal to determine how much risk is involved and to be confident in the reward.

Keep in mind, no investment can guarantee a specific return, as there are too many variables (and SEC rules) that make guarantees in this area unwise or even prohibited. That said, good information and some education can help you make a more informed decision and better understand the risks and rewards.

As for rewards, some deals do not always work out in the best favor of everyone involved – but that is rare in our experience. It’s also not uncommon for deals to return IRRs of 20%, 30%, even as much as 50% in two years (considered “deep value” plays). We have even seen sponsors hit their 3-year performance expectations in as few as 10 months. 

Asset types and how are they affected by various dynamics in life.

For every risk, there is a way to mitigate it. However, as we like to say, “past performance is not a guarantee of future returns.” Every deal is uniquely structured and subject to evolving conditions. Different sub-domains (a.k.a. asset classes) within the commercial real estate market are affected in different ways. The emergence of Covid-19, for example, hit the retail industry a lot harder than multi-family units. Hotels were primarily affected, and are still suffering as of the first quarter of 2022. We are currently seeing some great fire sales on hotels that have plans to be converted into multi-family or condo-type assets. Distribution systems like Amazon, however, experienced huge growth, as did businesses that were able to adopt working-from-home models. The economy is a very dynamic entity, which can work to your advantage or disadvantage when it comes to investing. 

For multi-family occupancy rates in Texas, the pandemic effect on the housing market resulted in generally favorable conditions. Economic occupancy, on average, was around 90% for our deals. That is slightly down from the desired 95% occupancy, but still profitable considering the global pandemic. Quarterly distributions also skipped a quarter, but are back on track – even with the halt on evictions.

We have also found a variety of opportunities in the marina space with huge potential upsides. This asset class has received a huge boost from the pandemic as people have sought a means to get out of the house during lockdowns.

RV and boat sales have increased during the pandemic, which means their owners need a place to store them, as HOAs have continued to forbid parking RVs and boats near their owners’ homes.

Self-storage units continue to be great assets for investors, as they are wildly popular for those who need extra space for personal belongings or to store inventory for small businesses.

The key takeaway from investing during an economic downturn is this: investing in real estate reaps the most benefits when the deal has a chance to grow in value with time. 

For fast rewards, many people turn to the stock market. The problem with this strategy is that the stock market is much more volatile in the short-term, and you could lose a great deal of money because an unfavorable article is published, or because of a tweeted misstatement, or because some huge fund decided to dump a stock in which you were directly investing. The biggest risk with stocks is that your investment can drop to zero in value, in the worst case. Real estate (an asset that is property-insured) has historically retained value – even if its value is temporarily down for a period. 

If you find the stock market too risky for these reasons or any others, then real estate may be better suited to your comfort zone. Just remember the rule of thumb that, while it has a long history of delivering steady value, past performance is not a guarantee of future returns.

Assessing the competency of a sponsor leading a deal

The overall success of a deal has a lot to do with the training and experience (track record) of the sponsors. Knowing your sponsor is key to knowing if you can trust them with your funds. That is one of our primary goals at Engineers in Real Estate; to build relationships with our community and ensure our passive investors thrive with every deal we can bring to the table. Both sponsors and investors benefit from a successful deal, which means both parties benefit from doing due diligence.

In summary: 

• The simplest way to get started investing in real estate is to become a passive investor, putting your money in a solid deal with a solid sponsor and letting it work for you. To do this, you will need to decide how financially involved you can or want to be, identify the right deal for your preferred level of risk and reward, and work with a trusted sponsor to learn and develop your investment portfolio. 
• If you would like to get started in real estate investing, have questions, or are looking for new deals, we encourage you to join our community today. Engineers in Real Estate is committed to providing ongoing education and resources for those new to investing or even seasoned investors. We charge no fees for joining, and being a part of our community allows us to share new investment deals with you. Once you join, use the link in our email response to schedule a time to introduce yourself to us via our appointment calendar.
• Start learning – the more you read and understand, the better prepared you will be to ask questions when a good deal comes along, and the more confidence you will have in understanding the risks and potential rewards. As one of the benefits of joining our community, you can also listen to our webinars when we present new deals, with no obligation to invest. You will learn as you listen. If the deal is right for you and you are ready, then we can walk you through the subscription process.

 

While we did not cover these topics in-depth here, we would love to schedule a time to talk with you on the finer points of getting started. This may include:

• Discussing the various types of accounts and entities you may be able to use for investing your funds (While we are not CPAs and cannot offer financial advice, we are aware of some questions and techniques you may want to speak to your CPA about that may minimize your tax implications)
• Reviewing your financial goals and preferences and understanding your risk profile before investing
• Explaining how to get started and get through the subscription process
• Exploring your questions about investing so we can point you to good resources

 

Welcome to our Engineers in Real Estate community – we look forward to connecting with you!