How To Buy And Hold Real Estate
Profiting from real estate as part of a short-term or a long-term investment strategy (for example, to complement your retirement plan) is a common goal for many investors. The flexibility of real estate investing makes it ideal as a full-time career path, a part-time business, or just as a hobby.
Either way, there are some tactics you can turn to maximize the return you receive from your investments. We’re huge proponents of creating your real estate investing business plan, even if you’ve already started!
In previous articles, we’ve discussed where to find a gold mine for quality, affordable real estate, and we also focused on breaking down real estate investment income.
Now, let’s see what makes real estate an excellent option for your investment portfolio. You’ll also learn a few key investment strategies and criteria you can employ in your long-term real estate portfolio.
Buy and Hold Real Estate as an Investing Opportunity
“Buy and hold real estate” typically infers that the property owner is also a landlord. Regardless of whether you choose to manage the property yourself or use a property management company, your investments should be strategic. Purposeful investing leads to predictable return! After all, a big motivation for investing in real estate is the higher level of control you have over the investment and how it performs.
The main thing that defines a buy and hold investing venture is that the real estate investor plans to keep (hold) the property for a long time. This is the opposite of house flipping where the investor buys the property to rehab and sell it in a shorter time frame.
In the end, what’s important is that investing in real estate is a smart move, provided you are willing to learn how to read the real estate market.
Now, let’s consider the business models of one of the most recognizable brands worldwide—McDonald’s.
The way the fast-food chain grows its business is by buying lucrative properties and then lending them for profit to franchise holders. Essentially what McDonald’s does is buy-and-hold real estate investing, afterward collecting rent from the franchisees. In addition to having built a very recognizable branding, the company excels at finding the right real estate properties to buy.
That said, the next point discusses how to use a community or a neighborhood plan to find the right properties for your buy and hold real estate portfolio.
Using a Community or Neighborhood Plan
For most people looking to buy a property, the obvious way to go is with a real estate agent.
Whether you pick this option or look for investment opportunities on your own, an excellent place to start is by going over community/neighborhood plans. Utilizing a community plan allows you to capitalize on the forecasted growth and expectations for development.
A community plan is a comprehensive document produced by a city that outlines city zoning and building requirements for that location. Because a community or neighborhood plan focuses on the entire economic and social development of an area, it applies to both residential real estate and commercial properties.
The document details code approvals and what will pass zoning for any development activity. If you have a vacant lot that you would like to infill with a new build, the plan will give you the requirements to build on it.
When it comes to purchasing an existing property, the plan also outlines improvement requirements, perspective infrastructure improvements, and the number of vacant parcels in the community. The community plan document details a community’s needs and wants for development letting you draw some conclusions about the expected market value of a particular community. You can use the community’s goals to craft a long-term investment strategy around that commitment.
For investors, this approach relies on forecasting where a community is heading in order to provide fixed rental income. A smart way to maximize returns is to profit from speculative appreciation from growth in property values. Just remember that appreciation is variable and occurs over the long-term holding of the property.
Buy and Hold Real Estate as a Rental Property
One of the main benefits of buy-and-hold is that even if you plan to sell it for profit in the future, you can get even more out of it as a rental property. On top of that, there are tax benefits for rental income.
Fortunately, these days it’s effortless to see how the rental market is doing and what you could expect as a ROI. The easiest thing to do is to keep an eye on the listings for your neighborhood of choice. There you can get an idea of what renters are looking for by watching which properties rent out easy and how much rent you could realistically charge.
What’s more, you can hire a property manager to deal with renters. This way, the only thing left for you would be to collect the rent, which you can set up to be directly deposited into your bank account. Of course, if you manage the property yourself, you’ll save money.
Buy and Hold Cash Flow
Cash flow is the lifeblood of fixed long-term passive income. Ultimately, a working buy and hold strategy is really about cash flow. This is the fixed income the investor makes after expenses like mortgage, taxes, and other improvements.
To determine cash flow, estimate the gross rental income and subtract expenses and vacancy rates. You may find estimated gross income by looking for other available rentals in the area. The average of what they are asking for is a reasonable estimate of market rent. Multiply the rent by 12 months to get the annual gross income from the property. We also suggest using 10% vacancy.
Time Horizon for Payback
After all the talk about tactics, strategy, and viability of buying and holding real estate, ultimately your primary concern is how quickly your investment will pay off.
There are quite a few variables to consider, one of the main ones being your financing options. Will you use cash or work with a loan?
Buying With Cash
Purchasing a property with cash leads to more up-front costs, but because there is no debt, the property will be able to pay back your money rapidly. In the end, an investor ends up with a house that is free and clear with none of their own money invested anymore. This is the ultimate path to financial freedom because an investor using this strategy has secured their financial future after the payback period is complete.
There are a couple of ways to determine your investment payback.
As we said before, you have to recognize that real estate is a long term play. With that in mind, the Gross Rent Multiplier (GRM) is an effective way to calculate how long it takes for the rents to repay in investment. It takes annual gross rents and divides by the amount of cash you have invested (purchase price).
It is preferable to maximize the payback period (making it as short as possible) by aiming for a score of 5 or less. In reality, that is very fast to receive your cash back. Just think how longer it would take your bank to pay you in dividends the same amount as you have invested.
Buying Using a Mortgage
When buying investment property using a mortgage, the key is to focus on the financial product: a low, fixed interest rate allows the investor to lock in gains. We consider this strategy financial arbitrage to build wealth.
The loan is secured by the property and is denominated in today’s dollars. This is important because the loan is repaid in weaker dollars because of the time value of money. This method allows buy and hold investors to leverage inflation and the ever-weakening of fiat currency to their advantage. This means that the actual cash outlay to keep the property feels less expensive over time because as time goes on the dollar becomes weaker and weaker.
If you are planning to finance your investment with a mortgage, make sure to do a thorough research of what offers are available to you. There is a host of options that differ in down payment requirements, mortgage interest, refinance options, and how easy it is to qualify for a loan. Thus, you’ll likely find something that works adequately for your needs. The most common options are conventional and government-sponsored mortgages (VA and FHA loans), though you can also look into crowdfunding real estate platforms.
Conclusion
Real estate is a valuable asset class to have in your portfolio. It is also a viable choice for new investors looking to try their hand in this area. It allows you as an investor to have more control over the investment and use some of the tactics outlined above to achieve higher than average returns on their investment.
Buy and hold real estate investing is a patience game and you should keep in mind the long term perspective. Buy and hold real estate investments offer a secure form of financial freedom and income well above what one can reasonably expect from savings and 401k. By the time a person makes it to retirement, they should have free and clear products (property) that offer stable and consistent cash flow.
Consider this as a takeaway for how to build a bright financial future as a buy and hold real estate investor:
- Buy the right property.
- Do not overdo upfront.
- Make incremental improvements over the long term.
Note: This article originally appeared at Modest Money. The author is John Delia.
Category: Real Estate
