There are many different real estate investments other than just buying and selling. Some have lower requirements, so it’s easier for beginners to manage, but some are more advanced and require more experience or funds. New investors ask me all the time: what are the different types of real estate investment? Which one should I choose to get started?
The best types of real estate investment for beginners typically involve buying and selling single-family residences since they require the least amount of capital.
So let’s talk about the different types of real estate investments you can make and which I feel are the best for new investors like you.
When new investors think about diving into real estate, they typically look at single-family homes first.
As the name suggests, this category includes residential properties designed to house one family (as opposed to multi-family properties, which I’ll discuss below). Of this class, standalone, single-family houses make up the largest portion of properties. However, the single-family home category also technically includes townhomes and single condos (not entire condo buildings).
For new real estate investors, this category makes the most sense for three main reasons:
Additionally, from a financing perspective, new real estate investors often find the residential mortgage process far easier to understand than the intricacies of commercial lending—typically because they’ve been through this process with their primary residences.
For investors, common investment strategies with single-family homes include:
Regardless of which approach you take, new (and experienced) investors need to conduct thorough due diligence in evaluating an investment property before purchasing.
“Plexes” include multifamily properties that fall under the residential real estate umbrella.
They include the following:
Once multifamily properties reach five or more units, they qualify as “commercial multifamily,” which I’ll discuss in the next section.
After acquiring a portfolio of single-family properties, many investors decide to test the multifamily waters and purchase a plex. While this makes sense in some situations, investors should consider the following pros and cons associated with this property type before committing.
Pros
Cons
As stated above, once plexes surpass four units, they become multifamily commercial properties. While these properties include essentially the same tenants, commercial properties use different financing options.
With residential properties, investors generally use personal mortgages borrowed in your name, not that of a business. These loan products include the familiar 15- to 30-year mortgages. You’ll need to qualify with your own credit, income, assets, and debt-to-income ratios.
With commercial lending, businesses apply for loans (in the case of real estate, investors typically organize properties as LLCs or limited partnerships). This means that the assets of the business, the property’s pro forma financial statements, and the investment track record of the borrower drive approval for commercial mortgages (though new commercial investors will often need to guarantee these loans personally).
Additionally, the actual loan products differ. Whereas personal mortgages align loan term (length of the loan) and amortization (the period that payments reduce a loan’s principal), most commercial mortgages do not. Instead, commercial mortgages tend to have shorter loan terms (e.g., ten years) and extended amortization periods (e.g., 20 years). This means that your monthly payments are made as if you would pay off the loan in 20 years, but you’ll owe a one-time balloon payment at the end of the 10-year term.
This structure limits the interest-rate risk for lenders but increases this risk for borrowers. If mortgage rates rise by several (or more) percentage points over a ten-year term, commercial borrowers need to refinance into a far worse rate environment.
Multifamily aptly describes this property type—properties that house multiple families. For experienced residential property investors, these properties often represent a great bridge into the commercial real estate world, as you’ll be dealing with the same type of tenants as residential real estate.
Furthermore, multifamily properties continue the vacancy-hedge advantage discussed above with plexes. If you lose one tenant in a duplex, you’ve lost half your rental income—a significant hit to your cash flow. If you lose one tenant in a 100-unit apartment building, you’ve only lost 1/100 of your rental income, a far easier vacancy loss to absorb.
Additionally, multifamily properties provide investors with economies of scale advantages. You likely won’t receive a vendor discount if you need to buy one or two water heaters for a single-family home or duplex. But, if you need to buy 100 water heaters for an apartment building, you can use that volume as leverage to command per-unit discounts with most vendors.
Large apartment buildings also often have enough cash flow to justify on-site maintenance and management. In addition to increasing tenant satisfaction—and therefore limiting turnover and vacancy—this on-site support drastically reduces the time investors need to pour into a property, freeing them to pursue other deals.
Major types of multifamily properties include:
The next major type of real estate investment includes office buildings, that is, structures that house business offices. Like multifamily properties, this type of real estate generally offers a vacancy hedge. Most office buildings include multiple units, meaning that if one business leaves, the other office tenants help offset the vacancy hit.
Investors sub-categorize offices based on their age, quality, and location. Class A offices tend to be the newest, highest-quality, and best located; Class B includes mid-range properties, and Class C consists of the oldest properties needing the most repairs in the least-desirable locations.
Major office types include:
The absolute variety of industrial buildings makes this property type unique. With residential, multifamily, and offices, investors get pretty standard tenants. Industrial space has a far wider tenant type and actual space use, with each tenant needing a fairly unique property build-out.
However, the unique nature of each of these properties can also make industrial real estate a compelling investment option. Once an industrial tenant moves into a property, they do enough work that they’re unlikely to want to leave quickly. This reality creates a long-term, stable tenant base.
For new investors, though, the complexities of industrial properties and leases—to say nothing of the massive costs associated with purchasing or developing these properties—can make this investment unrealistic.
The major categories of commercial properties include:
Medical properties comprise the next major type of real estate investment. This includes all property types built around the needs of the medical profession, from your local clinic to full-scale hospitals.
Similar to industrial spaces, the stability provided by medical properties makes them extremely valuable to investors. Regardless of economic conditions, people always need medical care. And, once a medical tenant occupies a space, they don’t have much incentive to leave, which leads to long-term leases (10+ years).
Furthermore, medical properties require extremely industry-specific build-outs. For example, hospitals and doctor’s offices frequently require lead-lined walls, increased plumbing capacity, and wider elevators to support patient movement. These characteristics further disincentivize medical tenants from moving once established—a plus for investors.
Major categories of medical property include:
Retail properties include all spaces designed for tenants who sell goods or services directly to consumers. Think of your local Verizon store, a neighborhood restaurant, or a coffee shop; the properties these businesses occupy all qualify as retail real estate.
Due to the consumer-centric nature of retail, these properties need to be located in places that maximize consumer convenience. It wouldn’t make much sense to have a fast-food restaurant out in the middle of the desert, away from any major roads, right? Consequently, these properties tend to be pretty expensive, as a premium exists on this prime location (though retail spaces certainly exist in less desirable markets).
Investors need to consider the long-term trends associated with the underlying tenant businesses in analyzing potential investment opportunities. For investors, the future of retail real estate needs to be measured against the growth in e-commerce. Whereas product-related retail has suffered from the growth of e-commerce, service-related retail (e.g., hair salons and nail parlors) has tended to thrive.
A wide variety of retail property types exist, with the major ones including:
Hospitality represents the last type of commercial real estate. These properties serve the needs of travelers, both for business and pleasure purposes
For investors, hospitality properties tend to closely mirror the current economic cycle, for better or worse. Business and pleasure travelers tend to travel more frequently when the economy performs well. On the other hand, in economic downturns, both of these types of travelers tend to “tighten the belt” and scale back travel, which can hurt the operating performance of hospitality real estate.
Major hospitality real estate categories include:
I’ve included land last because it can lean more towards the residential or commercial category depending on investor intention. But, land truly represents its own class of real estate.
In general, three types of land investment exist:
I personally believe investing in single-family homes provides far greater returns than investing in land. Still, investors can certainly pursue this strategy on the side—and land flipping tends to require far less initial capital.
What’s the best type of real estate investment for new investors? I believe that investing in single-family homes represents the best option for new real estate investors. These properties require less cash than some other property types, and plenty of them exist on the market.
Furthermore, new investors tend to be more familiar with single-family homes, making the initial investing learning curve far more reasonable. Conversely, commercial properties tend to include more complexity while requiring significantly larger initial investments.
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