Are you interested in investing in real estate? If so, it can be difficult to know where to start—especially if you don’t have a ton of money to work with.
The good news? While it can help, you don’t need a lot of money to begin investing in real estate. There are many different paths you can take on your journey to becoming a real estate investor.
Below, we highlight some of the reasons investing in real estate might be a good idea for your portfolio. We also explore the pros and cons of the four most common pathways into real estate investing.
Regardless of your budget, you can invest in real estate if you want to. We’ll show you how.
Why invest in real estate?
There are many potential reasons to diversify your investment portfolio with real estate. Some of the most common reasons for investing in real estate include:
It helps you diversify.
Real estate is an asset class entirely to its own—and one that, historically, has had a low correlation to other asset classes, such as stocks. Allocating a portion of your portfolio to real estate can be an excellent means of diversifying and adding resilience to your portfolio.
It can generate income.
Depending on how you choose to invest in real estate, you may be able to generate income from your investment. If you directly own a property, for example, you may choose to rent it out. If you invest in REITs, on the other hand (which we cover below), you’ll receive periodic payments simply for holding them. In either case, you can use this cash flow however you see fit—for example, to cover your living expenses, upkeep your property, or reinvest.
It may offer tax advantages.
Investing in real estate can offer a number of different tax advantages you can use to lower your total tax bill, especially if you choose to buy physical property.
Homeowners, for example, can deduct up to $10,000 in state and local taxes (including property taxes) from their federal tax return, as well as mortgage interest.
Landlords and property managers can deduct many of the costs of owning, operating, and otherwise managing their properties, such as:
Property management fees
Marketing expenses (to attract renters)
As a bonus, if you hold your property for at least a year before you sell it at a gain, that profit will be taxed at the capital gains tax rate—which is typically taxed at a lower rate than income. If you file a 1031 Exchange and use the proceeds from your sale to purchase a similar property, it may be possible to defer all or a portion of these capital gains taxes.
(Note: Consider working with a tax professional who can help you understand exactly which deductions and tax benefits you may or may not be eligible to take advantage of.)
It can act as an inflation hedge.
Income-generating real estate is often considered to be a hedge against inflation. Why? Thanks to strong demand and limited supply, landlords are largely free to increase rents to keep pace with inflation. In fact, historically speaking, the cost of rent has largely outpaced inflation since the mid-90s.
Ways to Invest in Real Estate
Interested in investing in real estate? Here are four potential pathways that you can follow to reach that goal.
1. Buy (and live in) a house
Difficulty level: Moderate
According to a survey conducted by the Pew Research Center, 91 percent of Americans believe that owning a home is either an essential or important part of achieving the “American Dream.” It should be of little surprise, then, that the single most common way that the average American invests in real estate is by purchasing the home they will live in.
While investing in real estate via this method may not offer all of the benefits offered by some of the other methods we will discuss, it can still be a powerful way of building equity in a tangible asset and diversifying your portfolio. (The tax benefits of homeownership don’t hurt, either!)
It gives you a place to live: Buying a house is different from most other forms of investing, because it serves a real-world purpose: It provides you with shelter. In doing so, it removes the cost of rent that you would otherwise be paying to a landlord. Many Americans also enjoy a feeling of stability and pride that comes with owning their own home.
It can help you accrue wealth: As you pay down your mortgage with monthly payments, you’ll also be slowly building equity in your home over time. In many ways, you can think of it as a forced sort of recurring investment. That’s probably why many Americans find that the equity that they have in their homes forms a large percentage of their overall wealth.
It may appreciate: As mentioned above, real estate has historically appreciated in value due to rising demands and limited supply—trends that many experts expect will continue for years to come. This appreciation has historically at least matched (and often surpassed) the rate of inflation.
It diversifies your portfolio: As mentioned above, real estate is not strongly correlated with other assets such as stocks and bonds. Buying a home therefore allows you to diversify a percentage of your investments outside those more traditional asset classes.
It offers tax benefits: Homeowners can deduct a number of costs associated with owning a home from their federal tax returns—including state and local property taxes (up to a certain amount) and mortgage interest. These essentially subsidize your home, making it more affordable.
It may generate income: If you choose to rent out a room, floor, or guest house on your property, it can serve as a means of income generation.
It requires a down payment: In most cases, purchasing your home will require you to save up a down payment for the purchase. The standard advice is to put at least 20% down, as this will save you money in the form of interest payments, increase the amount of equity you have in your home when you purchase it, and allow you to avoid additional costs like private mortgage insurance. (That being said, it’s possible to purchase a home with a smaller down payment and, in some very rare cases, no down payment at all.) Saving up for that down payment takes time and discipline to accomplish.
Interest payments reduce your return: If you purchase your home using a mortgage, as most homeowners do, then you will be on the hook for interest payments as you pay back your loan. These mortgage payments can reduce the overall return you receive if and when you do finally sell your home for a profit.
It’s an illiquid investment: If you need to access the equity that you have built in your home, you will either need to sell the house or access a home equity loan (or line of credit). Both of these options take time—time which you may or may not have during an emergency.
It’s the slowest method in our list: Earning an investment return by purchasing your home and waiting for it to appreciate is by far the slowest method for earning a return by investing in real estate. In other words, it’s not a get-rich-quick scheme. If you are looking to earn a return more quickly, some of the other options discussed below may be a better fit for your needs.
2. Buy a rental property
Difficulty level: Moderate to Difficult
Another popular method for investing in real estate is to become a landlord. Most commonly, this will involve purchasing some type of residential property (such as a single family home, duplex, triplex, or condo) and then renting it out to tenants. That being said, it’s also possible to purchase and rent out office space, warehouse space, industrial space, and other types of property, provided the demand is there.
While becoming a landlord may not be for everyone, it can provide significant cash flow and eventual profits for those with the right skill set and level of interest.
It provides immediate cash flow: As soon as you purchase your property and fill it with tenants, it will begin to generate cash flow in the form of rent—which you can use to pay down your mortgage debt, purchase additional properties, invest toward other goals, or even cover your living expenses. It could even replace your 9-to-5 job.
It may provide you with a place to live: In some cases, you might be able to purchase an investment property (such as a duplex, triplex, or other multi-unit facility) that allows you to house yourself alongside your tenants.
It offers tax benefits: Becoming a landlord opens up a number of deductions that you can potentially use to lower your tax bill. This includes property tax, mortgage interest, the cost of certain repairs and maintenance, depreciation, and more.
It can help you build generational wealth: Investing in real estate is often considered to be a means to building generational wealth. This is partially due to the fact that it is an income-generating asset, and partially due to the fact that it is relatively easy to transfer to your heirs.
It requires a down payment: As with purchasing any piece of real estate, purchasing a rental property will require a down payment.
Interest payments reduce your return: If you purchase your rental property using a mortgage, the interest payments will reduce your profit until you have paid back the loan.
It’s an illiquid investment: Rental properties are every bit as illiquid as purchasing a primary home.
It requires maintenance and upkeep: You will be responsible for any maintenance and upkeep in your rental properties. Because you will be dealing with tenants who may not care about the property as much as you do, you may find that you have higher maintenance costs than the average homeowner.
It requires a certain level of expertise: Before purchasing a rental property, it’s crucial that you firmly understand the market. What is a reasonable price for the property you are looking to purchase? How much rent can you realistically expect to charge for the unit? What laws governing tenant/landlord conflict do you need to be aware of?
It may come with tenant issues: Going this route means that you’ll need to interact with your tenants, which may occasionally come with issues such as interpersonal drama, late rent, etc. Dealing with these issues will require a certain level of conflict resolution skills.
3. House flipping
Difficulty level: Difficult
House flipping can take a number of different forms. Sometimes, it simply involves identifying and purchasing an underpriced piece of property and then reselling it at a higher valuation (pocketing the difference as profit). Other times, it involves purchasing a piece of property and fixing it up (often called a fix-and-flip), before returning it to the market at a higher price that reflects the upgrades you have made.
House flipping has the potential to bring investors big returns very quickly, but it also involves a significant amount of risk. With this in mind, it isn’t typically recommended for the average investor who is looking for a simple way to invest in real estate.
It’s possible to earn a profit quickly: A house flipper who identifies a severely underpriced home and then flips it can potentially earn very high profits—to the tune of tens or even hundreds of thousands of dollars—in a very short period of time.
It ties up capital for a shorter period of time: When you purchase a rental property (or a house to live in) you are tying your capital up for a long term. This means that you can’t easily deploy that capital elsewhere. House flippers, on the other hand, typically try to get in and out of a property as quickly as possible to maximize profits and minimize expenses. This also means that capital is freed up much sooner.
It offers tax benefits: House flippers can take advantage of many of the same tax deductions as homeowners and landlords—including mortgage interest, property taxes, the cost of repairs, and more.
It can replace your 9-to-5 job: Many professional house flippers start out flipping houses as a side hustle before eventually making the endeavor their full-time career. In this way, it can be a path to financial freedom.
It requires a deep understanding of real estate valuations: In order to identify a good deal, house flippers need to have a deep understanding of real estate valuations. It is this understanding that allows them to identify the houses that are unfairly priced, which can be purchased and resold for a profit.
It may require significant hands-on work: Going the fix-and-flip route requires you to fix up or otherwise upgrade the home so that you can sell it at a profit. To accomplish this, you’ll either need to be comfortable doing the renovations yourself, or you’ll need to hire contractors to do it for you.
It requires a down payment: Again, when purchasing any real estate you will need to first save up a down payment to make the purchase. This means it can be difficult to break into the game until you have already accrued a decent amount of savings.
It’s risky: While flipping houses can be very lucrative, it’s also very risky. There’s always the possibility that you may enter the market at a bad time and not be able to sell the property for your desired price in the given timeframe. This can tie up your capital, reduce your profits, and even potentially cause you to settle for a loss.
4. Invest in REITs
Difficulty level: Easy
If you are looking for a fast, simple, and easy way to invest in real estate, you may want to consider investing in real estate investment trusts (REITs).
REITs are a special type of company that either finance, own, or operate income-generating real estate like apartment complexes, residential homes, hotels, healthcare facilities, data centers, etc. By law, at least 90% of a REITs’ taxable income must be passed on to investors in the form of dividends, making them an excellent option for income-oriented investors.
And because many REITs are publicly listed, it’s extremely easy to invest in them. In fact, you can purchase shares of REITs much like you would purchase shares of a company’s stock
You don’t need a down payment: Unlike the other three options in our list, you don’t need to save up a down payment in order to begin investing in REITs. Thanks to fractional shares, you can begin investing with as little as $5.
You won’t have any mortgage debt: Since you are not actively purchasing physical property, you don't need a mortgage. This means you can invest in real estate without paying interest or taking on hefty mortgage payments.
REITs instantly provide you with cash flow: Most REITs pay dividends on a quarterly basis (though some pay dividends monthly), providing you with immediate cash flow. As long as you hold shares of a REIT, you will be eligible to receive these periodic payments.
They’re very liquid investments: If you decide that you need to raise cash, you can very quickly sell your REIT shares on the market just like you would stocks. This makes REITs much more liquid than physical real estate.
REITs offer a means of diversification: REITs offer investors a very easy means of diversifying their investment portfolios to include real estate.
Rising interest rates can be bad for some REITs: When interest rates are volatile (as they have been for much of 2022) it can be bad news for certain types of REITs. This is particularly true for mortgage REITs( mREITs) which prefer an environment of stable interest rates. That being said, equity REITs have been demonstrated to historically perform well during periods of high inflation.
Lack of tax benefits: When you invest in REITs, you do not get any of the tax benefits discussed above.
No qualified dividends: Unlike "qualified" dividends paid by non-REIT companies (which are taxed at the dividend tax rate), dividends paid by REITs are taxed as ordinary income. Thus, REIT investors in higher tax brackets might have to pay more in taxes on their REIT dividends.
You don’t actually own anything: If actually owning a piece of real estate matters to you, then investing in REITs won’t help you reach that goal.
Real Estate Investing, On Your Terms
Here at Allio, we recognize the powerful role real estate can play in a well-diversified investment portfolio. That’s why all of our portfolios include exposure to real estate in the form of REITs (with the exact allocation determined by your risk tolerance and investment horizon). When you invest with us, a portion of every dollar you invest will be used to purchase shares of REITs that empower you to take advantage of the benefits offered by real estate investing.
At the same time, we offer our users a number of tools that are perfect for aspiring homeowners who are saving up a down payment to purchase a home. Our round-ups feature, for example, makes it easy to save money as you spend on everyday purchases, and recurring investments offer an easy way to dollar-cost average and invest on a schedule.
However you want to invest in real estate, Allio can help you reach your goals.