People are always trying to find ways to make their money work for them. One way many have found success is through passive income through real estate investing. But how do you even begin?
Passive Income through Real Estate Investing: What Is It?
There’s a large misconception when it comes to passive real estate investing. Many believe it involves purchasing properties, possibly rehabbing them, and renting them out to tenants. Because of how much involvement one has over the management of the property, this is actually a form of active real estate investing. True passive real estate investing is something else entirely.
For your investment to be passive, you have to invest money into different companies or funds that make real estate deals independently. These companies don’t rely on or seek input from their investors to make decisions as they bring their own expertise to the investment decision. You as an investor are trusting the sponsor will be able to use your money to make the best decisions to maximize profits. Such companies can include:
- Real Estate Developers
- Large Real Estate Brokers
- Construction Companies
- Real Estate Investment Trusts, or REITs
Unlike active real estate, passive real estate is hands-off. This means you can spend your time and energy on other projects while your money works for you. The company you invest with will evaluate real estate investment opportunities and choose those they think will provide the best profit for both you and the business. One type of investing involves choosing a company that provides investors with Residual Income.
Residual Income is the income that remains after all debts and expenses of an income-producing property have been paid. There are several benefits to such a model. For example, you can utilize tax deferred cash returns. This means that the depreciation of the physical asset can partially offset the operating income for tax purposes. In addition to these returns, you won’t have to personally deal with physical property or tenants.
As for financing real estate projects, the company or fund you invest with will deal with borrowers on your behalf. You aren’t required to participate in structuring any deals that use your investment capital to make loans secured by real estate. The principles of these types of firms have the knowledge and expertise to ensure that transactions will proceed in the most effective and profitable manner. In all, companies that offer residual income opportunities can provide investors with true hands-off money-making opportunities.
A second model of income generation for investors comes in the form of REITs. These trusts are required to distribute 90% of taxable income to its shareholders. REITs specialize in different types of commercial real estate. Some examples include offices, data centers, hospitals, and more.
What are the Detriments to Passive Income through Real Estate Investing?
While it’s easy to see the benefits of passive real estate investing, it’s worth noting that there are certain drawbacks. When investing in passive real estate, the potential return on your investment amount is generally lower in order to compensate the sponsor for the expertise and efforts. This is in contrast to active investing where you can receive a relatively larger share of profit over a relatively short time span. The time and energy you spend in active real estate justifies a larger return. In passive real estate, however, you are paying the managing partner to take on these responsibilities. In turn, you take a smaller cut and reap the rewards of their labor.