Real estate investing offers a myriad of strategies, each with its own set of benefits and considerations. So which one is right for you?
Nearly everyone knows what fix-and-flip projects are since it's usually the most common strategy people think of when they hear "real estate investing." TV shows featured on HGTV have made fix-and-flip projects mainstream. Fix-and-flip projects are an active form of investing. Meaning that you as the investor will be searching for the deals, arranging the financing, and managing the contractors. You will be actively involved throughout the project and must dedicate time to ensure success.
Then there's passive investing in commercial real estate. This is where you make an initial capital contribution with a trusted real estate investor (the active investor), and let them do the work for you.
In this blog post, we will compare these two investment strategies, highlighting their key characteristics and helping you determine which one aligns best with your investment goals and preferences.
1. Time Commitment and Active Involvement
This strategy involves purchasing properties, renovating them, and selling them quickly for a profit. Fix-and-flips require hands-on involvement, as you'll be responsible for overseeing the renovation process, managing contractors, and marketing the property for sale.
It demands a significant time commitment and a proactive approach to ensure successful execution.
I've completed fix-and-flip projects before, and I'm here to tell you they are not passive! I was spending 10+ hours per week managing the investment and constantly driving across town to check on the progress. If something went wrong, I would have to dedicate even more time to fix the issue.
This doesn't mean it's a bad strategy, but you should understand you will most likely be creating another job on top of the one you have now. Do you want to leave the office at 5 p.m. and then go to work on your other job? Most likely not.
Passive Apartment Investing
In contrast, passive investing in apartments allows you to be a partial owner of a larger multifamily property without the day-to-day operational responsibilities. You invest in a group investment alongside many other investors. So instead of owning 100% of a rental property, you can own a smaller piece of a large commercial property.
As a passive investor, you can rely on the sponsor team to handle the investment from start to finish. The sponsor team is the active investor in this investment strategy. The sponsor team (active investor) finds the deal, arranges financing, does the bookkeeping, and manages the contractors — all of the not-so-fun stuff about real estate.
The key here is to find trusted and experienced real estate investors to invest with. To find a trusted sponsor, you can do a few things.
- Ask for real investor references from past deals.
- Ask how the deals in their current portfolio are performing compared to their original underwriting.
- Ask for case studies of their past deals.
- Run a background check on the sponsor team which is relatively easy to do.
The sponsor team is the one who handles anything and everything about the deal. To be clear, you have no active involvement in the deal. So the sponsor won't call you when a tenant moves out, or when a toilet breaks, or to ask which color to paint the building.
Passive real estate investing is a completely hands-off investment.
2. Risk and Return Potential
While fix-and-flips can offer substantial returns, they also come with several risks. The success of a fix-and-flip heavily depends on accurate property valuation, effective renovation planning, and an understanding of market dynamics. Mistakes in estimating renovation costs or overestimating the sale price can significantly impact profitability.
Market fluctuations, unforeseen repairs, and longer holding periods can also eat into potential returns. If you have to hold the property longer due to renovation miscalculations or finding a buyer, you could potentially pay more interest on your loan, and holding costs like taxes and insurance.
Fix-and-flips are high risk, high reward. As the active investor in this investment strategy, you are exposed to all of the risks. More potential risks can include spending more on the rehab than you budgeted for or selling the property for less than you originally planned. As you can imagine, both of these scenarios can have a huge impact on your leftover profit.
Passive Apartment Investing
One benefit of investing in apartments is that it typically offers stable and predictable cash flow. This is because with a larger multifamily complex, if a few tenants move out, you still have other paying tenants in the other units.
Apartment buildings generate ongoing rental income, allowing investors to benefit from monthly cash flow, potential tax advantages, and long-term appreciation.
In my opinion, apartments have lower risk than fix-and-flips. It's highly unlikely that 100 tenants at a 100-unit property will move out all at once. If a water heater goes out, that cost is spread across the entire complex.
3. Scalability and Portfolio Growth
Fix-and-flips are typically individual projects that require significant capital and resources for each transaction.
While successful flips can generate substantial profits (potentially $15,000– $30,000), scaling this strategy can be challenging due to the time and effort required for each property.
Fix-and-flips are often more suited for investors looking for shorter-term gains or those with expertise in property renovations.
Passive Apartment Investing
Passive investing in apartments allows for scalability and portfolio growth. By investing in a larger multifamily property, you can benefit from economies of scale, diversify risk across multiple units, and build a sustainable stream of passive income from the consistent cash flow. Economies of scale are potential cost reductions due to having a larger property size.
With flips, it comes down to how many properties you can flip in a year. With passive apartment investing, it comes down to how much capital you can afford to invest. The potential to grow your portfolio goes as far as the money you can invest, not the time and manpower. You have the luxury of investing with different real estate sponsors and properties all across the United States. The good thing here is you don't have to live in Indianapolis if you want to invest there. As a passive investor in syndications, you can pick exactly where you want to invest, but you will never be required to go there. This saves you time and money from traveling around to different markets.
As you invest in multiple apartment properties or syndications, you can gradually expand your real estate portfolio and increase cash flow over time.
Choosing between fix-and-flips and passive apartment investing depends on your personal preferences, available resources, and investment goals.
Fix-and-flip properties require active involvement from you as the investor. You will have to find the deal, arrange financing, and manage the investment from start to finish. On the other hand, passive apartment investing provides a hands-off approach, stable cash flow, and long-term growth potential.
Consider your time commitment, risk tolerance, and desired level of involvement when deciding which strategy suits you best. It's always wise to conduct thorough research, seek professional advice, and evaluate your financial situation before diving into any real estate investment.
Ultimately, both strategies have their merits, and the right choice depends on your individual circumstances and investment objectives.
About the Author:
Justin founded Next Level Equity, a company dedicated to helping busy professionals passively invest in real estate syndications so that they can live a life by design now, instead of waiting until they retire. Next Level Equity specializes in value-add multifamily real estate and exhibits expertise in maximizing value on every asset they acquire. Rather than attempting to predict the market cycles, they strive to acquire cash-flowing apartment communities within Indiana.
The views and opinions expressed in this blog post are provided for informational purposes only and should not be construed as an offer to buy or sell any securities or to make or consider any investment or course of action.