Real estate investing can be a profitable exercise. For people keen to diversify away from an inflated stock market or who simply like the asset class, owning real estate either directly or through a REIT can be exciting. With that said, it’s necessary to avoid making key mistakes that set you back or incur losses as a result. To help you avoid them, here are four mistakes to watch out for.
Not all real estate investments are passive. If you’re a small operator, then you may be doing more of the legwork. This can get tiresome in a hurry, especially if you have a full-time job and family responsibilities too. You may realize all too late that you’ve taken on more than you can chew, but hiring a property manager will reduce your profit margin to zero.
If you’re wanting a passive investment in real estate, consider buying a REIT index fund. This provides a leveraged return on public REITs across multiple sectors without any of the hassle. It will more closely correlate to small-cap equities in the market, but it’s the best you can do.
While the concept of diversification is a useful one, it’s not always the best move. Broadening your horizons can increase the difficulty level and the risk of failing to make a profit.
Moving into multiple markets across different towns, cities or states creates an unnecessary level of complication. When purchasing real estate directly, it will need maintenance and attending the property occasionally to resolve disputes. If you’re not large enough yet to employ a property manager, then it increases the problems. Also, knowing the real estate market in each city or state is too much to learn and keep track of. There’s a good reason why realtors typically stick to one city and don’t branch out much beyond that.
Different property types create new obstacles to overcome. Managing a warehouse is entirely different from a multi-family property with numerous units. It’s best to stick to a single property type until you know it inside and out. Only then can you consider trying to invest in other ones.
Real estate law covers many different aspects from rights of way, water access, and what you can and cannot do with land development. You simply cannot be expected to learn all that from a standing start if you’re new to investing in real estate.
It’s best to retain a real estate law firm that can provide legal guidance. Doing so prevents making costly errors in development or management that could potentially lead to unwanted lawsuits. To get a better sense of what laws are most relevant, it’s helpful to look at a lawyer’s site such as clinelawyers.com to see what they recommend.
Real estate is highly cyclical. Just because a friend has made an outsized return, it does not mean that you will. The amount of leverage, skill in property selection, location, tenant quality, the cap rate on the building, how many repairs are required, and a host of other details factor into possible returns.
To get a better idea of what’s realistic long-term, look that the historical returns. Nominal annualized returns at the 8-10% level are realistic, which is within 100-200 basis points of what the S&P 500 index has delivered.
Avoiding common mistakes with real estate investing substantially increases the chances of a positive ROI. Then you can get the diversification benefits along with it.
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