Real estate investing is one of those things where there’s never a great time to start. The Chinese proverb about the best time to plant a tree is 10 years ago and the next best time being now very neatly encapsulates what your mentality towards investing should be.
Anytime you wake up is your morning
If you are reading this, then there’s a high chance you have a deep desire to start your real estate investing journey and are just looking for a credible guide on how you can start investing profitably, responsibly and safely.
Investing can sometimes be uncharted territory, for most people, it can be intimidating, and there’s a tendency to avoid things we find complicated.
The purpose of this guide is to get you from zero to expert in real estate investing.
During this guide, we will take you through the fundamentals of investing in real estate starting from the basics while touching on everything you need to know in order to become a bonafide real estate investor and give you the confidence you need to jump in at the deep end.
Here’s what will be covered in this guide;
- How to invest in real estate- Learn all the different ways to invest in real estate in a practical way
- Real estate vs Other investment options- Learn about how real estate differs from other investment options and see how real estate stacks up against them
- Evaluating Real estate deals: Learn what to look for in a real estate deal, how to analyse real estate deals, where to find additional information, and what questions to ask.
- Legal implications and benefits: Learn about the benefits of investing in real estate, the legal implications around owning property in different jurisdictions and how it can impact your finances and the taxes
- Understanding risk: Learn about the common risks involved in investing in real estate and how you can mitigate them and the relationship between risk and return
Why Real estate?
The ancient basic needs of human beings are food, shelter & clothing. These needs are so visceral and basic that you have to fulfil them every single day in order to survive and live a quality life.
There will always be money to be made from real estate. And this is because there will always be a need for property, from bare land to single-family homes, to apartments, office spaces, events centres and everything in between and regardless of the economic situation in the country, the need for these things does not reduce.
So if you are involved in the financing, construction, maintenance or re-financing of these projects, there is a lot of profit to be made.
Historically, real estate has held up as the preferred means for the elite to make passive and active income by getting their money to work for them.
What’s more, real estate returns tend to outperform the stock market and serves as a good hedge during times of economic and political uncertainty since a good bet can be made that the property will at the very least retain its value and in the best case increase in value.
Experienced investors ensure that real estate is a part of their portfolio as it helps to diversify the portfolio while proofing your portfolio against the volatility of other investment vehicles.
Real estate also tends to be less unpredictable as you can typically make good assumptions and projections on the performance of any given piece of property based on the performance of similar properties within the same location.
Types of Real estate
- Residential real estate
- Commercial real estate
- Industrial real estate
Residential real estate; Consists of homes. Single-family, multi-family, condominiums, small apartments etc. This could be affordable or luxury. And can be built either for rent, for sale or to the specifications of a customer.
Commercial real estate; This typically refers to buildings that were created for commercial use, like office spaces, events centres, restaurants, retail spaces etc. Residential apartment buildings with over 4 units are also usually considered commercial real estate.
Industrial real estate; These are a form of commercial real estate but are very specific in the purpose they serve e.g as factories, warehouses, power plants etc
Land; This is bare land which is purchased with the intention of being developed into either commercial or residential real estate. This land can also be used for agricultural purposes, as a makeshift events centre or the owner can simply wait while the value appreciates as most land tends to do overtime.
How real estate deals are financed
There are multiple ways that real estate deals can be financed, however, the best real estate deals are financed through a combination of all these methods. Also, the larger the scale of the project, the more
- Offplan sales
- Self-finance; Some developers can fund their own projects by themselves, usually because the projects are small enough or because the company is large enough that they can absorb the costs of the projects.
The upside of this is that the developer gets to keep all the profits for himself, and does not have to answer to anyone other than the consumers.
The downside is that the developer bears all of the risks and ends up tying up capital that could be directed towards other developments.
- Loans; This is a very common way to fund real estate projects. Developers can raise money from financial institutions like banks, family offices, investment companies etc
This is not easy because these financial institutions usually have very high standards for the kinds of projects they will fund but if you are able to get the financing from these institutions they will typically work with you to ensure the success of your project.
The upside of this is that you can share the risk, add a credible partner to your project and raise large sums of money which increases your potential impact.
The downside is that these institutions are very strict with the way they structure their financing, which means you can lose control of the project if they feel it is being mismanaged.
The interest rates on these loans are also usually high and sometimes can be structured as senior debt which means you must pay the institution first before even paying yourself.
- Crowdfunding; This is a way to raise small amounts of money from large groups of people usually on the internet.
Crowdfunding is a relatively new method that has been gaining popularity for the last decade.
The upside is that you can potentially raise large amounts of money at very favourable rates and at short notice.
The downside is the lack of clear regulations around this method in Africa and other developing regions. There’s also the fact that you have to manage large groups of people which could be a drag on your resources if you are not prepared for it.
- Offplan sales: A very interesting way to raise money for construction is to pre-sell the units just based off the plans you created.
The upside is that you have a ready customer immediately the units are ready, you don’t need large groups of people to make it work and its the most readily accessible means of raising financing.
The downside is that you need high credibility for people to believe that you can deliver on your promises and this is really hard to build.
- Private raising: Sometimes called syndication, his involves raising money from private individuals or investment groups or other kinds of entities. These usually become partners and are part of the project for the long haul.
The upside for this is that you can raise large amounts of money, share the risk, and make use of your own network.
The downside is that you are effectively giving yourself a boss and are answerable to the Syndicate for as long as the project is in progress.
Also, you would have to share a significant part of the proceeds with them.
Common real estate terminologies
Throughout your real estate investing journey, you will encounter multiple terms that might be foreign to you depending on your background.
Below is a handy guide to help you understand these terms and what they mean for you as a real estate investor.
This is the total amount in per cent you can expect to make back from your initial investments including rental & sales income. It will vary from property to property based on the primary use of the property, the hold period, the growth potential of the location & the funding structure( Equity or Debt)
Real estate deals will typically be funded in one of 2 ways; Debt or Equity.
In debt models, your investment serves as a loan to the builder & your return is your initial capital + a share of the interest paid on the loan when it is paid back. This structure is employed for smaller deals with shorter hold times.
With the equity model, you own a share of the property and are entitled to both rental income for the lifetime of the project & a share of the sales price of the building. This model is employed for larger buildings with longer hold periods. The hold periods range from 5 years to forever.
Internal Rate of Return (IRR)
This is the average annual return on your investment when the time value of money is factored in. It essentially tells you how quickly your money is coming back out of the property
It is the expected compound annual rate of return that will be earned on a project or investment. Think of it as the rate of growth a project is expected to produce.
This is the length of time we expect to hold a particular property on your behalf before it is sold. This includes build time and can vary from anywhere between 1 to 10 years sometimes more.
This period is calculated by careful analysis of the fundamentals of the project and determining the best time that the project can be sold when profit can be maximised for you.
This is the fixed, pre-determined, minimum return you can expect on your investment.
This is the first return distributed after the investment starts to make a profit.
How often we target to make distributions to investors. Distribution Frequency is typically either monthly, quarterly or annually but is determined by the kind of property & its income profile.
Equity multiple is one of the most important and effective financial metrics used in commercial real estate. An equity multiple is designed to compare the cash that an investor has put into an investment to the amount of cash that the investment has generated over a specific period of time.
This is calculated by;
Equity Multiple = Total Cash Distributions/Total Equity Invested
This is a living document, and we hope you will come back here to check the meaning of any terms you might be confused about.
You have just concluded part one of Cofundie’s Real estate investing 101 guide. This is your first step towards becoming a real estate investor. By now you should understand real estate, why it is a moneymaker, the types of real estate, how real estate deals are financed and some basic terms in real estate.
In the next part, we will be discussing the practical ways and step by step instructions on how to invest in real estate, and how exactly your investments make you money.
Make sure to follow up with the next part to continue your real estate investment education journey.
To read part II “How to Invest in Real Estate”