Everyone can make money investing in real estate, just not in every way.
Buying single-family houses with hopes of seeing massive price gains has historically created poor returns, and becoming a landlord is literally a job. Buying property requires tons of excess capital, and flipping housing takes time and expertise the average American doesn't have.
Lucky for us, more than 50 years ago, the U.S. Government signed into law a way every American could passively reap the rewards of investing in real estate.
They're called real estate investment trusts, or REITs. REITs are private or publicly traded companies that collect money from investors to buy and lease real estate. That means investing in a REIT can be as easy opening a brokerage account and clicking a button. Even better, instead of paying taxes, REITs payout 90% of their income in dividends to investors, creating yields upwards of 5% in many cases.
Here are seven reasons why this is the best way to invest in real estate.
7. Better and more reliable returns
I'm not trying to convince anyone not to buy a home. Yes, you have to live somewhere, but when you think of your home as an investment, you should expect a return -- and historically those returns have been mediocre.
On average, home prices are up 70% over the last 14 years. That makes for an average annual return of about 4%. Add in the cost of inflation and that return is cut to roughly 1.5% annually.
Over the same time, an investment in a REIT like Realty Income -- that rents property to retail chains like Walgreens, FedEx, and Dollar General -- or Simon Property Group, which owns malls all over the country, would have generated an average annual return of 18% and 21%, respectively.
6. Consistent and immediate cash flow
One of the pitfalls of directly investing in real estate is lack of cash flow. You throw in tons of your time and capital, then hope for a big score when it's all over. If you plan to rent and have trouble finding or replacing tenants, it could significantly impact you returns.
Not only do REITs take care of all the heavy lifting, but they'll pay you a dividend every quarter for the privilege. That means you'll get a check every few months from the first day you invest until the day you sell.
5. Less industry knowledge necessary
I'm not trying to trick anyone, because REITs are no sure thing, and to be an intelligent investor requires effort.
For instance, reading the company's filings, learning what types of properties the company buys, how they do it, who runs the business, and what's their track record, are all important questions to answer before considering investing.
There is a significant difference, however, between understanding a business, and attempting to run a business, like renting property. It's just as dramatic considering the expertise necessary to be successful flipping houses.
4. Less capital necessary
Beyond getting a mortgage and buying a home, the idea of further investing in real estate for most people is squashed by lack of funds.
Most REIT stocks cost less than $100 per share.
3. No debt
There's always risk in investing, but that risk gets multiplied when debt is involved. For instance, many of those who bought homes in 2006 or 2007 still owe more on their mortgage than their homes are worth.
Since you can invest in a REIT at a much lower price, it doesn't require taking on any debt.
The biggest problem with owning, renting, or flipping is lack of diversification. Owning even a few properties leaves you incredibly vulnerable to price changes in a region, impacts of potential local rezoning, and plenty of other unforeseen risks.
Many of today's larger REITs own hundreds of properties all across the country and even overseas. This protects the business and investors from taking significant losses due to problems with just one property.
For even more diversification, you can invest in a basket of REITs spanning all of the real estate industry by simply investing in a low-cost exchange-traded fund like Vanguard's REIT ETF.
1. You can get out at any time
The worst thing that can happen when investing in real estate is you throw tons of time and money into a property and you have to take a huge loss -- or worse, you can't sell it at all.
Since many REITs are traded on public stock exchanges, this is rarely a concern. If you want out, you can get out, anytime -- and broker costs are a heck of a lot cheaper.
More from The Motley Fool: Warren Buffett Tells You How to Turn $40 into $10 Million