Alright, this is an enjoyable topic for me. In case you don’t know my story, I began investing in real estate when I was 26. You can read about my first deal here. Since then, I have bought, sold, rented, flipped, and operated short/medium/long-term rentals, so I know first-hand how to use real estate to build wealth. That said, this isn’t ONE right way to do it. If you talk to anyone investing in real estate, they all will have different stories (usually very entertaining stories).
You may remember the article I wrote a few weeks ago about renting versus buying. That article is geared toward folks who are purchasing their primary home with no intention or interest in the investment side of real estate—and that’s totally fine!
However, if you’re interested in using real estate as an investment opportunity, you’re in for a treat. There are many different routes to take, each with its unique benefits and considerations. When used strategically, real estate can be a very powerful tool, and understanding these strategies can empower you to make informed investment decisions.
Let’s break down some ways to ‘house-hack’ your way to wealth. House-hacking is a strategy where you live in one part of a property and rent out the other parts, such as rooms or units, to cover your mortgage or even make a profit.
First, let’s talk about the benefits of owning real estate.
1) You can leverage your money.
2) Your asset will appreciate over time.
3) The monthly cash flow benefits you now.
4) Depreciation and tax benefits.
5) Hedge against inflation.
6) People will always need a place to live.
These recommendations are from my personal experience. Investing comes down to individual risk tolerance and risk appetite.
General recommendations:
Focus on buying properties in areas where people want to live. Good areas will attract great tenants. Bonus if it is walkable, near a university, hospital, etc.
Size matters: One—to three-bedroom places rent well and always will. I don’t invest in large, luxury homes because chances are someone renting a luxury home can also afford to buy one, making your pool of potential renters smaller. An exception would be a vacation home.
Aim to have instant equity. This means buying a property for less than its market value, which gives you a financial advantage from the start. You can achieve this by purchasing a property that needs some repairs or renovations, and then increasing its value through these improvements.
Buy a house that needs some sweat equity. You can do the fix-up quickly and resell the home at a profit or do the fix-up over time. Either way, by fixing up a property, you are increasing the value of it.
Buy a duplex or home where you can rent a portion of it. Housing is generally your most significant expense, so if you can rent a portion of your home to cover some or all of your mortgage, you can put that money towards your next property or invest in the stock market.
Operate a short-term rental. You need to look into your area’s laws to ensure that short-term rentals are legal. If they are, renting your home on Airbnb or VRBO is a great way to make money. Many people do this with vacation homes in tourist towns (ski, beach, etc.), but short-term rentals also do very well in cities.
Operate a medium-term rental. If short-term rentals are not legal or are too much work, you can do a medium-term rental. This is where a property is furnished and then rented for a set period of time, usually 1-6 months. These work really well for professionals working remotely, traveling nurses, etc. Just keep in mind that the furniture, utilities, cable, internet, snow shoveling, etc. are generally included, so your rental rate needs to reflect that.
Operate a long-term rental. If you pick good tenants, this is the easiest way to manage your rentals. Make sure your lease clearly outlines who is responsible for what regarding the property.
Building wealth:
Start small. Buy one property, gain equity, and either keep it long-term or sell it to upgrade it. This gradual approach can help you feel less overwhelmed and more in control of your investment journey. Rinse and repeat until you have the desired number of properties and cash flow.
Real estate is stable. You can lock in a 30-year fixed interest rate and increase your rent over time, improving your cash flow. This stability can provide a sense of reassurance and confidence, knowing that your investment is likely to appreciate over time. However, keep in mind that taxes, insurance, and maintenance costs will also increase over time.
Raise your rent annually when you can. Sometimes, the rental market may be a little soft, and you’re better off maintaining your current rental rate and attracting a great tenant.
Utilize the principal residence exclusion, which states that if you have lived in the property for two of the last five years, you don’t have to pay capital gains on the first $250,000 if you’re single and $500,000 if you’re married. If you were inclined, you could move every few years and pay little to no taxes on the sale of your property.
Utilize a 1031 exchange to keep upgrading your properties using tax-deferred funds. A 1031 exchange allows investors to defer capital gains tax on the sale of one investment property by reinvesting the proceeds into another like-kind property. This means you can sell a property, use the entire proceeds to buy a new property, and defer the capital gains tax until you sell the new property. It’s like playing a real-life game of Monopoly with the IRS.
All investing has risk. Before diving into real estate investing, do your due diligence and lots of number crunching. Each of these avenues I mentioned have pro’s and con’s. Please be sure to learn everything you can prior to jumping in. Real estate is enjoyable and is a great way to build wealth in the long term.
Questions about my financial journey with real estate? I’m happy to chat!
