Many real estate investors including myself start out investing actively. We may pick up a single-family rental property or two and start down the path of owning many homes to create passive income. Or we might take our shot at flipping a house to create extra income but then realize its not really an investment program but another job to create income to enable one to invest in buy and hold deals. Both approaches are considered more active forms of real estate ownership. Active means more control of your investment decisions but also requires a more realistic assessment of what’s involved to continue down this path.
Considerations for pursuing an Active Path:
- Time – To find, assess, acquire and manage properties effectively takes time. Flipping homes is a business involving managing contractors, budgets, etc. Buy and hold rental properties are less active forms of ownership but still require time to find, keep good tenants, deal with repairs, makeover time to get property ready for the next renter, etc.
- Knowledge – If you are pursuing an active path, reading books, attending conferences and local meetup groups, and finding good partners or mentors is key. You need to spend time gaining knowledge of the market, neighborhood, property, the process, budgeting, etc. Knowledge can’t be outsourced as the buck stops with you.
- Capital – Active paths tend to take more of your capital to budget for the acquisition, repair, maintenance, etc. You need to have ample reserves and liquidity to handle unexpected events.
- Risk – Pursuing an active path, controlling your destiny and that “do it yourself” mentality is what gets many folks started down the active path. It may come with higher risk in that one vacancy or major repair on a single-family home could wipe out your passive income for the year.
- Location – Active investing is best done close to home and sticking to one niche like buying single family rental properties. It’s much more difficult to manage properties far from your home like other states.
Considerations for Passive Investing:
- Time – You know Real Estate is an important component of a holistic investment program and you need to spend some time understanding it. However, you don’t need to spend nights or weekends looking for properties to acquire, time managing them or dealing with tenant issues at often unexpected times. You want to live your life knowing you are participating in real estate and all its benefits without giving up your valuable time attending to it.
- Knowledge – Yes, you want to get knowledgeable about investing in passive real estate investments such as multifamily apartments, self-storage or manufactured home parks but once you determine a niche, select a company that does all the work in acquiring, managing and optimizing the asset, those are skills you do not need to develop or be good at.
- Capital – Yes, is takes capital to invest passively. Typically, this is done through a syndication where you are a limited partner by putting up capital to acquire the asset. That said, once you invest, that is pretty much it. Very rare are capital calls. As a passive investor, you can often invest in some set amount knowing that you won’t have to invest more in unexpected surprises or keep higher levels of reserves earning lower rates of return.
- Risk – Risk is considered lower in owning a share of a 200-unit apartment with other investors versus owning one single family property. During 2009 economic downturn as an example, less than .5% of MF apartment owners were delinquent in paying their mortgage while almost 4.5% of single-family home owners were delinquent in paying their mortgage. Folks must live somewhere so apartment vacancy may drop a bit, but most models show vacancy can go to 25% to break even while just one prolonged vacancy on a rental property can be a big problem.
- Location – With passive investing since you are not having to find and manage the property you can achieve geographic and niche diversification much easier. You can invest in apartments, self-storage, manufactured home parks in a wide range of top growth markets around the country which can further reduce risk versus just investing in your own local economy.
In sum, I’ve listed some key considerations for active and passive investing. I personally have active and passive real estate holdings. I like the control I have over some local holdings and have outsourced more of the repair and leasing activities to get some time back. That said, I am not currently planning on adding to my active portfolio. I have experienced as good of returns if not better by investing with experts, gained back more time and reduced my risks considerably by investing in syndications where experts do all the work. Over time, as many investors realize, I believe passive ownership is ultimately where everyone wants to get to. Controlling more of your time, capital and reducing risk to generate passive income to ultimately live life on your terms.