Active vs. Passive Real Estate Investing

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Active vs. Passive Real Estate Investing

by Tod Snodgrass

Active Real Estate Investing

Typically, an active Real Estate Investor (REIer) purchases a rental property (say, to buy and hold) and then exerts personal control over it. As the owner, they are fully responsible for everything having to do with the property. This can involve a lot of work, spanning a multiplicity of different disciplines, from knowing how to swing a hammer to sophisticated financial dealings, tenant relations, building codes, etc. Other problems can include: dealing with rent control laws in a growing number of cities and states; screening tenants; the normal cyclical ups and downs of the real estate market; damage done by tenants, bookkeeping, financial forecasting, etc.

If you (or those who you work with) are thinking about getting into REIing, one fundamental question to ask is this: Is REI your CORE business? Are you already a trained professional in the field? Licensed contractor or realtor for example? Do you have the time and inclination and skill sets to say, confidently pick up a roller and spend the day painting an entire apartment? Are you OK playing landlord and having to deal, on a monthly basis, with the “4 T’s”: tenants, toilets, trash and termites? Then there is the issue of tenant law, construction methodologies, real estate finance. It can be overwhelming.

Also, owning a property can open you up to virtually unlimited risk exposure via a fire, flood, earthquake etc. for which you may be underinsured or uninsured altogether. There is also the matter of bank loan personal guarantees, that are sometimes required; they can prove to be devastating if the cashflow on your investment property turns negative for some reason and you can no longer afford to make the monthly payments to the bank. Unfortunately, the above can lead to foreclosure, bankruptcy, etc.

If you are not comfortable with confronting all these different and potentially problematic areas, then you should think twice about active real estate investing. NOTE: Whether you choose to be an Active or Passive investor, favorable real-estate-related tax benefits are usually available with either path. However, to be safe, you should consult tax and legal professionals before proceeding with any investment.

Passive Real Estate Investing

It is for some or all of the reasons above, that many real estate investors opt for passive investing because, after careful consideration, they determine that they are just not psychologically, physically or financially suited for active REIng; instead, they determine that they are better served leaving these types of matters in the hands of professionals in the field because such things are their core business.

Passive REIing means you essentially outsource the entire investment task to pros, who hopefully are very good at the selection and overall management of investor properties. These types of professionals can wear one of many different types of hats when it comes to passive real estate investing. Here are some options you may want to pursue.

1. REIT (Real Estate Investment Trust)

2. Partnership: You are a limited (liability) partner and someone else is the general/managing partner.

3. Joint venture: The other party (say a general contractor) brings the deal and you supply the capital.

4. Private lender. You receive a (new) mortgage/trust deed and note on an investment property.

5. Note investor: You purchase an already-existing note, at a discount, and hopefully enjoy good yields.

6. Shareholder in a corporation that invests solely in real estate deals and properties

7. Private equity or hedge fund participant which specializes in real property investments

Passive Investment Process

Example: REIT managers are compensated with a portion of the profits for the highly valuable services they provide. The way it works is that the REIT managers pool funds from many different investors; they use those larger total sums to purchase bigger single assets or a big portfolio of individual properties. Once the acquisition is complete, the REIT managers run operations, provide regular reports, and periodically send a portion of the profits to investors.

The same general principal applies to all passive investment scenarios: when you do well and make good profits, the person investing your money (on your behalf) benefits as well. That is a good working model to follow = Win Win.

In Between Step: Delegate Key Operational Responsibilities to Competent Professionals

For those who choose to own their own real estate (as an active investor), but wish to remove some or all of the burdens of day-to-day responsibilities, there is a middle ground scenario you may want to explore: Delegate some or all of the work to others such as handymen, a property management company, licensed contractor, and/or other appropriate professionals.

What We Do: Quickly provide short-term, first position, private capital funding, to real estate investors for flips, fix/flips, transactional funding, and more. Contact info: Tod Snodgrass, emdfunding1@gmail.com, 310-408-7015

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