Here are quick five options to invest and make a return in real estate for an average retail investor or even someone with access to much larger capital.
Traditional/Conventional Investment Model
The simplest way to invest in real estate is to buy an asset or lease it for the long term and then rent it out to tenants–residential or commercial ones.
The process is simple but needs a large investment at the beginning and involves yearly maintenance and upkeep costs. Ensure that the asset is free from any legal hassles, acquire it on a lease, buy it upfront or through a loan.
If it is a commercial property, you will have to get the necessary registrations done at the sub-registrar’s office along with two witnesses and follow the procedures as outlined there.
Once the property is registered, you can send out advertisements or spread the word about its vacancy in the market. The tenant will have to accept and sign the lease agreement and then the monthly rentals will be your passive income from the property.
It is a good idea to have tenants with overlapping lease periods in the same asset so that the property never remains completely vacant. It helps with the timely maintenance costs as well. You could even get a property management firm to handle all this for you but must pay their commission charges at the same time.
In case it is a residential property, only the visit to the sub-registrar’s office is not needed. Similar rental agreements will need to be drawn up for every tenant and your returns from the investment will be measured through the monthly rentals you receive.
Renting Out a Portion of Your Existing Property
Even if you do not want to be burdened with a huge investment cost outright, you can start as small as renting out a room to commercial or residential tenants. If you have a whole floor of your current house lying unused, it is a better idea to rent it out.
However, you will have to deal with the extra traffic generated. If it’s a business you have rented the portion out to, based on what their product or service is, the conditions might not be conducive for living in the same place. All your terms and conditions need to be put into your rental agreement.
This mode of investing has been picking up popularity with people who have had experience in general contracting.
If you have the capital to spare, you can invest in a commercial or residential property that needs a lot of maintenance, fix it up for good and sell the asset at a much better price to asset/property management firms. The ownership of the asset is for a relatively shorter term, but if one has done their homework on the market beforehand, this kind of investing can generate good returns.
Compared to owning a property forever, this method has lesser constraints in terms of regular maintenance, registration work, and the like. However, it requires you to be familiar with the demand and supply of real estate in the market, and the cost of the renovation work that you are going to attempt. Having an experienced partner in this helps.
Investing in Real Estate via ETFs, Mutual Funds, REITs
All the three are not the same, but they can be clubbed into a similar category. Exchange-traded funds (ETF) and mutual funds can be bought that are themselves invested in real estate. It is possible to buy ETFs that invest in real estate stocks such as publicly-traded home builders. There are ETFs that invest in REITs (Real Estate Investment Trust) as well. You can find mutual funds that invest in real estate developers and property management firms. While ETFs are passively managed by a fund manager, mutual funds are actively managed.
ETFs and mutual funds offer high liquidity and low costs, but the downside is that there might not be any monthly dividends and you may not receive any returns until you sell the appreciated shares. The advantage to ETFs and mutual funds primarily lies in their low investment cost.
REITs on the other hand allow investing in multiple real estate assets through a single fund. Consider it as a mutual fund made entirely out of real estate assets or loans secured by real estate. Multiple investors can pool their resources together into a REIT and the dividends earned are divided among the investors based on the percentage of their investment in the fund.
While REITs also allow for a comparatively smaller investment ticket size, they rarely provide yields that can match or be better than equity-oriented products. Additionally, the investor has no control over how the investment is spread across all the assets in the REIT.
All these options still deal with real estate, so they will be relatively stable.
This has been picking up pace since the success of REITs in India. Real estate is still among the preferred choices for Indians to invest and fractional ownership allows investors to park their money in real estate while cutting down on the investment cost in a big way.
Like REITs, fractional ownership also involves multiple investors but focuses on one asset at a time. Property or real estate investment firms that deal in fractional ownership often scout out assets based on detailed market analysis and historical rent performance in the area. The asset is then further analyzed based on the returns it can generate in the future. After it has been satisfactorily ascertained that the asset has good growth prospects, the asset is listed on the firm’s website to be open for investments.
The firm creates a Special Purpose Vehicle (SPV) that manages the investments and the dealings with a particular asset. Any maintenance, upkeep costs are also included in the SPV’s management. This investment is typically done for commercial properties that have lease agreements of three years or more.
In certain specialty commercial properties, lease terms can be as long as 10 years or more. Upon a longer term of investment, fractional ownership can generate a rental yield of up to 8% to 10%. That can be equivalent to an internal rate of return (IRR) of 16% to 20% over an investment period of five years.
Fractional ownership allows investors to diversify their portfolio across multiple asset sub-classes from commercial office spaces, warehouses, labs, parking lots, industrial floors among others. Exiting an investment in fractional ownership is easy. You can use the management firm’s own portal or services to transfer ownership via the sale of your own portion or you can wait till when new tenants move in to make your decision of holding on to or letting go of the asset.
Which Option Should You Choose?
Real estate is beneficial as a form of investment but it is essential to understand what works for you. Based on how much you are prepared to invest, the kind of liquidity you desire, the regularity of cash flow, and your risk appetite, you can make a decision.
Owning, leasing and flipping properties require large investments and experience, not to forget a deep understanding of the real estate market in the area. Hunting for tenants, taking care of assets, and looking for buyers are additional responsibilities.
Mutual funds, ETFs are great for those who are not comfortable with a lump sum investment and prefer taking it slow and steady. However, there’s no regular cash flow and liquidity is based on the value of the shares at the time of redemption.
REITs mostly pay their dividends quarterly and there might be some who can also pay out monthly dividends. They are also not very cost-intensive in terms of the minimum ticket size for investment. However, the mix of assets in REIT cannot be changed, any loss in the assets will have to be absorbed by the investors during the time they are invested. There’s no option to selectively invest only in the profitable assets.
Fractional ownerships are gaining popularity as they help investors make a choice of picking a profitable asset and selling their ownership whenever they consider their expectations aren’t being met.
Irrespective of what you choose, understand that real estate is most beneficial only when you are invested in it for the long term. Apart from the fix-and-flip option, you should stick to an asset for a minimum of one to two years to reap the benefits of real estate investing.