Did You Know That You Can Invest In Real Estate Without The Headaches Of Tenants, Toilets, and Trash
Did you know that you can invest in real estate without risking the headaches of tenants, toilets, and trash? It's true – you can get all the benefits of investing in real estate without any of the hassles of being a landlord.
In this article, you'll see what passive real estate investing means and find out if you should be an active or passive investor.
What It Means To Be An Active Investor
When most people think of real estate investing, they think of rental property investing – buy a single-family home, find a renter, and collect monthly rental income. Sounds easy enough, but the reality can be quite different.
Even with a professional property management team on board, you as the landlord still have an active investment role.
The property managers may take care of the day-to-day issues. However, you will still need to be involved in strategic decisions, including whether to evict tenants who aren't paying, filing insurance claims when unexpected events happen, and sometimes having to put in additional funds to cover maintenance and repair costs.
What It Means To Be A Passive Investor
On the flip side, you have passive investing, which is the "set it and forget it" type of real estate investment. You invest your money, and someone else does all the heavy lifting.
The terrific part about passive investing is that it's passive – you don't get any calls from the property manager, you don't have to screen any tenants, and you don't have to file any insurance paperwork.
However, being a passive investor also means that you relinquish some of your control in the investment and trust someone else (i.e., the sponsor team) to manage the property and execute the business plan on your behalf.
Should You Be an Active or Passive Real Estate Investor?
Here are 10 factors to help you decide which path is right for you.
#1 – Tenants, Termites, and Toilets
If you've dreamt of becoming a landlord, having tenants, and making improvements, then consider an active investor role.
Otherwise, if the title to this bullet point makes you nauseous, you should go the passive route.
#2 – Time
Active real estate investments require more time during the initial acquisition and throughout the project lifecycle, while passive investments only require your time upfront, during the research phase.
#3 – Involvement
How hands-on do you want to be? Do you want to manage the property yourself, field tenant requests, and schedule maintenance and repair appointments? Or do you want to sit back while someone else does all of that?
#4 – Profits
With active investing, you would likely be the only property owner, so you would get to keep any net profits. With passive investing, the profits are distributed among many investors.
One type of investment doesn't necessarily net you higher returns than the other; you'll need to compare one deal to another.
#5 – Expenses
Active real estate investors should plan to handle insurance claims, emergencies, and repairs, which may require additional money at times, whereas passive investors only make an initial capital investment.
#6 – Risk and Liability
If things go south with active investing, you are personally held liable, which means you may lose the property and your other assets.
With passive investing, your liability is limited to the capital you invest. Typically, the asset is held in an LLC or LP. If anything goes wrong, the sponsors are held liable, not the passive investors.
#7 – Paperwork
Active investments are paperwork-heavy, from the property's initial purchase to tracking purchase and rental agreements, bookkeeping, and legal documents throughout the project.
On the other hand, with passive real estate investments, you typically sign a single PPM (private placement memorandum) to invest in the property. No need to fill out lender paperwork, file for insurance, or do any bookkeeping.
#8 – Team
As an active real estate investor, you will need to build your team, including brokers, property managers, and contractors.
As a passive investor, you rely on the shared expertise of the existing deal sponsor team. The sponsors are experts in the market and typically already have a team set up to manage the property.
#9 – Diversification
With active investing, you would need to be an expert in investing in the market and the asset class. If you're investing outside your local area, you would need to research the market, find a "boots on the ground" team, and possibly visit the place.
It's easy to diversify across different markets with passive investing since you don't have to start from scratch with each market. You are investing with teams that have already taken the time to research those markets and build strong local teams.
#10 – Taxes
As an active investor, you'll be responsible for the bookkeeping, meaning you will need to keep track of the income and expenses. You'll also need to work with your CPA to make sure that you are correctly depreciating the asset's value each year.
As a passive real estate investor, you don't need to do any bookkeeping. You receive a Schedule K-1 every spring for your taxes, which shows the property's income and losses—no need to track income and expenses throughout the year.
If you're ready to roll up your sleeves and get involved in the various aspects of being a landlord, active investing might be the perfect adventure for you.
However, if your time is limited, but you have the capital to invest, you might want to consider being a passive investor.
If you're hoping for a middle ground option, turnkey rentals and buy-and-holds may provide some control without the considerable time investment.
When determining which is the right path for you, be sure to factor in your unique situation, goals, and interests.