Passive real estate investments may be an attention-grabber for investors who believe that the real estate market can be a lucrative investment platform, especially those who do not wish to be actively involved in the day-to-day running activities associated with managing real estate properties. This is not surprising because, although investing in real estate may provide potential benefits and gains, it requires a lot of effort and management.
Many investors are interested in passive real estate investments, however, very few people understand exactly what it entails and if this form of investment works perfectly for them. Here’s what you need to know about passive real estate investments.
What are Passive Real Estate Investments
The term passive investing refers to a less active form of investing that involves a long-term hold on diversified assets in a portfolio. A common approach to this investment strategy is buying and holding Exchange Traded Funds (ETFs) with diverse assets for long-term periods. Investors who utilize passive investing are not generally looking to game the market but benefit from potential long-term earnings.
Borrowing from this strategy, passive real estate investments involve a more ‘hands-off’ approach to investing in the real estate market. While this does not necessarily mean putting money into an asset or fund and not bothering about its performance, it definitely requires less effort than what would be needed in active real estate investments.
A good example of an active real estate investment is buying a property and actively managing the rentals, maintenance and day-to-day activities that are necessary to keep the property investments afloat.
What are the Types of Passive Real Estate Investments?
Passive real estate investments vary from types, levels of engagement and possible returns. They could include direct passive investing or indirect passive investing. Direct passive investing can involve directly purchasing a real estate property such as a rental apartment and outsourcing the entire management to a real estate management company. The real estate company would be in charge of seeking rental clients, processing the rental requirements and maintaining the property.
Indirect passive real estate investing would generally require investors to invest in properties that are jointly held by a large pool of investors such that, no one investor has direct rights to a specific property.
In comparison, direct forms of passive real estate investments may require larger financial commitments but give the investor more control over the decisions made as regards the investment properties. Indirect forms of passive real estate investments on the other hand can provide access to high-end real estate properties for less, however, they come at a price of less control and management.
Common types of passive real estate investments include: real estate investment trusts, also known as REITs, rental units, Delaware Statutory Trusts (DSTs), crowdfunded investments and Opportunity Zone Funds amongst others.
Questions to Ask Before You Invest Passively in Real Estate
What kind of real estate properties are available?
If you are looking to diversify through passive real estate investments and wondering what type of properties would make a best fit, the good news is that a wide range of property types qualify for passive real estate investments. You can buy into commercial properties, residential buildings, or even industrial real estate assets. There are also funds or pooled investment types that give you the opportunity to invest in various institutional grade properties for a fraction of the cost.
Some real estate properties do not qualify for certain passive real estate investments such as primary residences, vacation home, properties not utilized for the purposes of business or investments etc.
It is important to verify with any investment partner on compliance requirements before committing cash to any form of investment.
What investment assets and vehicles are involved?
Passive real estate investments provide various vehicles and platforms through which investors can put in funds and potentially gain returns in the short or long term. There are opportunities to invest in real estate assets through the public financial markets. One of such passive real estate investments is the real estate investment trust which can be bought and traded publicly. Through REIT investments, you do not have to actively buy or manage real estate properties, but you may be entitled to any potential gains earned by virtue of your shares and interest in such passive real estate investments platforms.
You also need to consider other forms of passive real estate investments that are privately operated and what they require. Non-public investment vehicles are usually exclusive to accredited investors who not only meet the required net worth and income requirements, but also have the knowledge base of complex alternative investments.
As discussed above, a passive real estate investment could be as direct as a rental property such as single-family units, apartments,
What level of engagement is required?
Different passive real estate investments require varying levels of engagement. As a real estate investor looking to be passively involved in the real estate market, it is recommended to compare the available investment opportunities and identify which platform works best for you.
Some passive real estate investments may require you to attend periodic stakeholder meetings, cast shareholder votes or be involved in property selection. On the other hand, some passive real estate investments are operated through vehicles that require little to no external input from investors. The managers are fully responsible for the daily operations and management of funds, property management and maintenance.
Weigh out your options and choose whatever strategy fits into your risk appetite and overall investment goals and strategy.
Investment partners and sponsors play a key role in indirect passive real estate investments. You may be better off working with investment partners that are registered, under compliance surveillance, knowledgeable and experts in their field.
What are the potential benefits?
When selecting certain passive real estate investments, a key consideration is the potential for returns and profit. However, when making this decision, it is important to note that past performance of investment vehicles or assets do not guarantee future performance and possible gains. Passive real estate investments may offer promises of returns and profits but in reality, any possibility of returns depends on many factors such as property selection, property location, economic factors, fund manager expertise, market cycle, amongst others.
Speaking of fund management expertise, a noteworthy aspect of passive real estate investments is one that requires paying fees and other associated costs that in turn reduce any potential earnings from your investments. This is kind of a compromise situation, one in which you are willing to forfeit a percentage of your potential earnings for the active expertise of a fund or trust manager.
Potential benefits associated with passive investments may not necessarily be in terms of potential capital gains or profits, they could also be based on tax benefits associated with these types of investments. For example, passive investments through qualified opportunity zone funds may provide tax benefits for investors to defer taxes on capital gains or even eliminate these taxes in certain circumstances.
Ensure to ask questions around these factors before you make the decision to select an investment option.
What are the possible risks?
A common underlying aspect of investing is that the higher the risks, the higher the return. Well, certain passive real estate investments may provide potential higher gains, but the complexities and risks associated with them could also be higher than the average traditional investment assets.
Most passive real estate investments require huge financial commitments, so you need to do your due diligence to ensure that the risks associated with these types of investments can be borne. Some notable risks include: the markets are generally illiquid, there is no guarantee on principal or profits, investment funds may be locked up for long-term periods.
Although not a risk, in most passive real estate investments, you may have limited control on the type of properties or location of properties invested in.
It’s not uncommon to want an investment opportunity that provides the luxury of a hands-off approach but with possible earnings potentials. In reality, there is no perfect hundred percent passive form of investing. This is so because, not only would it require the efforts of external parties to manage the investments, you would also need to be aware and involved to some extent.
Passive real estate investments are generally alternative forms of investments through which investors aim to build and preserve wealth over the long term. As it usually involves large amounts of money, it is important to consider the intricacies, costs, risks, management strategies and potential benefits before taking the plunge into the world of passive real estate investments.
No matter how passive your investments may seem, it is advisable to get legal advice to ensure there is not oversight on responsibilities, obligations and any other legal implications associated with your investments. Also, tax professionals and financial advisors are a must-have to avoid any unwarranted tax obligations and ensure that you are privy to any tax advantages available.
The team at Stax Capital is available to provide answers on various forms of passive real estate investment platforms that may be beneficial to you as an investor. Contact us for further inquiries.