Real Estate Investing Basics

Understanding the Opportunity Costs of Real Estate Investing

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opportunity costs for real estate investors

Every investor needs to understand the “Opportunity Cost” of their investments.  This is especially true for new real estate investors.  In fact real estate investors need to understand their opportunity cost from two different perspectives.

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Before we move on let’s review a simple definition.

Opportunity Cost is defined as the cost or value of the next best alternative not selected.

Using this as a baseline I recommend that all new real estate investors review their decisions based first on time and second on capital.

Real estate investors have both time and capital as constrained resources and thus they should review all decisions by answering the following question.  What is the cost or value of my time or my capital compared to the next best alternative not selected?

Said another way, real estate investors need to answer the following question: 
What is the most valuable thing I am giving up in exchange for this time or capital commitment?

As an investor who happens to hold a full time job, I know first-hand that my opportunity cost often involves my family.  What I mean by this is, by investing time or capital into my real estate business my opportunity cost is the loss of another family trip, a long weekend with the wife and kids or simply dinner and a movie.  Real Estate investing can get in the way of other family commitments.

Holding a full time job while learning the real estate business means you have to invest time and capital around your work schedule, which by definition means you have even less time (at least in the short term) with your family.

I know that this is a tremendous cost for most families; I believe it to be so great, that most people can’t make the sacrifice long term.  It takes real family commitment and understanding of the opportunity cost to learn and thrive in this business.  The first year while you are learning the business is the hardest and requires the greatest family sacrifice.

Why? The answer is unfortunately really simple.

Everyone gets the same amount of hours in a week, month or year and by definition the folks with a full time job have already committed a significant portion of their hours to working and commuting.  This commitment is flanked by family and friend commitments that can’t be skipped or avoided. These facts significantly restrict access to the extra hours required to learn real estate investing.

As I have shared before, I believe it is vital that people put in the time required to learn their market and the opportunities the market is giving them.  If real estate investors don’t put in the time or they simply trust others they are risking their hard earned capital because they can’t find the time to do the initial work and that is just a bad idea.

For example I suggest new investors learn their rental market, the cost of average repairs, the current inventory, the local trends, details about specific neighborhoods, etc.  This is only a partial list for the buy and hold investor; the list is twice as long for investors who chose to flip properties while holding a full time job. Flipping properties while holding a full time job is like holding two full time jobs at a minimum.

In the end you can’t be successful long term if you’re not willing to put in the time and effort required.  If the cost is too high make that decision early on.

Reasons Why “Opportunity Cost” for New Real Estate Investors is Important

First I believe most new investors who have a full time job fail to realize the initial time commitment required to learn the real estate investing business.  I suspect that it is this surprise cost that knocks most new investors out of the market, which is unfortunate.  I want new investors to be successful in this great business and to be successful you need to have your eyes wide open to all the costs.

Second if you are a new investor and you realize that the opportunity cost of time and capital just doesn’t fit your current family, work or lifestyle, then you do have other options.  You should look into being a passive investor and establish a relationship with an investor that has a proven track record.  You can lock in nice steady returns with downside protection and not suffer the same level of time and capital commitments.

In the end if you have a full time job and family commitments that leave very little free time you might want to consider becoming a passive investor.

Good Investing

Image: arztsamui / FreeDigitalPhotos.net

    Sharon Vornholt
    Replied almost 8 years ago
    Great post Michael – Having invested part time for many years prior to becoming a full time investor, this is something that we all find to be a tremendous challenge. Choosing a strategy that takes less overall time like buy and hold investing vs rehabbing is one choice you might make. If you can get very focused on marketing, then wholesaling is another strategy that works well. In the end, I believe a strategy will choose YOU if you stick it out. There will be one that will be the perfect fit for you; your goals, the time you have to commit to real estate investing and your lifestyle.
    Mike Z
    Replied almost 8 years ago
    Sharon, Very well said and Congrats on making the leap from part time to full time!!!! Good Investing
    Randy
    Replied almost 8 years ago
    Michael, Very telling post that new investors fail to realize. The time commitment is a huge angle that people don’t consider. It is probably the reason why many young people get out of Real Estate investing as their first experience goes for a loss or becomes overwhelming.
    Randy
    Replied almost 8 years ago
    Michael, Very telling post that new investors fail to realize. The time commitment is a huge angle that people don’t consider. It is probably the reason why many young people get out of Real Estate investing as their first experience goes for a loss or becomes overwhelming.
    Mike Z
    Replied almost 8 years ago
    Randy I agree. I believe most new investors give up on active real estate investing becuase of the time commitment to learn the business. Life is very busy and lots of folks can’t carve out the time required in the beginning Good Investing
    cwilson71
    Replied almost 8 years ago
    Thanks for this article Michael, My wife and I both work full time and are just starting the process of learning as much as we can about real estate investing. There are just so many options and so much to learn. I appreciate the reality check that getting into this business is suddenly going to “free up time.” For me, the big fear with passive investing is that this capital and a bit of learning and hard work could yield far greater returns than if I hand it off to someone else. Any chance you could do a blog article on why you are still working full time? Do you plan to keep a full time job outside of real estate investing and if so, for how long?
    Mike Z
    Replied almost 8 years ago
    Hello CWilson71 Couple of thoughts. First you are correct Active real estate investing can yield larger returns. And lets be clear I am doing active investing for that very reason. However some folks I speak with have capital but just can’t create the time required to learn the business and that is where passive investing becomes a decent option for some. Better to get a decent return than spin your wheels and do nothing. I wish you and your wife all the best and as the article says remember the first year is the hardest. As for the blog post idea, I like it. Let me think about how I can frame it to be useful piece for the masses. I am always looking for great ideas on what to write about Good Investing
    Rusty
    Replied almost 8 years ago
    The time investment is huge. I am just getting started & work a full time job. Most days I get up at 6am to work, then work until 12am before I go to bed. Mostly because I’ve been doing all the rehab work myself. That being said, I don’t regret it. I love what I’m doing & I know eventually it will transition into full time real estate investing. Which is a greater payoff in the long run.
    Mike Z
    Replied almost 8 years ago
    Rusty, Good for you. Lots of folks can’t or won’t make that type of long term committment. Keep it up and you will do well. Good Investing
    Mike Z
    Replied almost 8 years ago
    Rusty, Good for you. Lots of folks can’t or won’t make that type of long term committment. Keep it up and you will do well. Good Investing Reply Report comment
    Mike Z
    Replied almost 8 years ago
    Rusty, Good for you. Lots of folks can’t or won’t make that type of long term committment. Keep it up and you will do well. Good Investing
    Dwayne
    Replied over 7 years ago
    Michael, Thank you for this post. As a newbie, this offers a new perspective. I have a full time job and I take classes online so I have to really evaluate how much more time I can give to real estate investing. Often, it’s the time with my loved ones that I take for granted and I’m trying to change that. I usually excuse it as sacrifice now for financial freedom later…but you have to make sure your loved ones are ready to sacrifice now. Reply Report comment
    Dwayne
    Replied over 7 years ago
    Michael, Thank you for this post. As a newbie, this offers a new perspective. I have a full time job and I take classes online so I have to really evaluate how much more time I can give to real estate investing. Often, it’s the time with my loved ones that I take for granted and I’m trying to change that. I usually excuse it as sacrifice now for financial freedom later…but you have to make sure your loved ones are ready to sacrifice now.
    Mike Z
    Replied over 7 years ago
    Dwayne, Sacrifice is hard especially early in the process. Get the family on board and if your lucky get them engaged in the process of learning, etc. Else you could be in for some painful choices. Good Investing
    Mike Z
    Replied over 7 years ago
    Dwayne, Sacrifice is hard especially early in the process. Get the family on board and if your lucky get them engaged in the process of learning, etc. Else you could be in for some painful choices. Good Investing Reply Report comment
    Ronald Cagape
    Replied over 7 years ago
    Real Estate lends itself well to opportunity cost because real estate gets better with the passing of time. Appreciation, Equity build-up and tax advantages are benefits that are not available with cash or cash instruments. The longer you hold real estate, the better it gets so the earlier you start to invest, the longer you’ll reap the benefits.
    Mike Z
    Replied over 7 years ago
    Ronald Like you say hard to go wrong with Buying at the write price and Holding for the long term Good Investing