{"id":179509,"date":"2024-12-04T16:09:49","date_gmt":"2024-12-04T23:09:49","guid":{"rendered":"https:\/\/www.biggerpockets.com\/blog\/?p=179509"},"modified":"2024-12-04T16:09:52","modified_gmt":"2024-12-04T23:09:52","slug":"nine-factors-to-watch-for-as-a-three-dimensional-investor","status":"publish","type":"post","link":"https:\/\/www.biggerpockets.com\/blog\/nine-factors-to-watch-for-as-a-three-dimensional-investor","title":{"rendered":"Investors Need to Think Outside the Box\u2014Start With These 9 Factors"},"content":{"rendered":"\n

I aim to earn 15% or higher returns on all my hands-off real estate investments. When the average person hears that, they immediately react dismissively: \u201cWhat?! You must be sinking money into high-risk investments then.\u201d<\/span><\/p>\n\n\n\n

It reveals that they think about investments on only one axis: risk versus returns. In other words, they <\/span>think<\/span> two-dimensionally about investing. <\/span><\/p>\n\n\n\n

Guess what? There are other dimensions to investments\u2014other factors that should affect what makes a \u201cgood\u201d or \u201cbad\u201d investment for you <\/span>personally<\/span> in the present moment. <\/span><\/p>\n\n\n\n

As <\/span>you become<\/span> a more sophisticated investor, start thinking three-dimensionally about your investments. Here are some factors to consider.<\/span><\/p>\n\n\n\n

1. Liquidity<\/span><\/h2>\n\n\n\n

When you buy a stock, you can sell it at any time. When you invest in real estate, you usually lock your money up for years <\/span>on end<\/span>. And when you do decide to sell, it often takes months and <\/span>costs<\/span> tens of thousands in seller closing costs. <\/span><\/p>\n\n\n\n

It applies to both active and <\/span>passive real estate investing<\/span><\/a>. <\/span>In fact,<\/span> most passive investments come with no liquidity <\/span>whatsoever<\/span>\u2014you get your money back on the operator\u2019s timeline, not your own. <\/span><\/p>\n\n\n\n

Imagine someone told you, \u201cI can earn you 15% annualized returns with low to moderate risk, but once your money <\/span>is invested<\/span>, you have zero control over when you get it back.\u201d <\/span><\/p>\n\n\n\n

You might earn distributions <\/span>along the way<\/span> in the 5% to 10% range. You might get <\/span>great<\/span> tax benefits. But what you can\u2019t get is your money back upon demand. <\/span><\/p>\n\n\n\n

Suddenly, it <\/span>starts to make<\/span> sense how an investment can offer high returns with low or moderate risk when you realize there\u2019s more to the story than just risk or returns. <\/span><\/p>\n\n\n\n

2. Timeline<\/span><\/h2>\n\n\n\n

No liquidity or low liquidity doesn\u2019t tell you when you can reasonably expect to get your money back. Can you <\/span>expect<\/span> your money back in one year? Three? Five? Ten? <\/span><\/p>\n\n\n\n

Many real estate syndications aim for a timeline of four to seven years. Once invested, your money is locked up. <\/span><\/p>\n\n\n\n

I run a passive real estate investment club called the Co-Investing Club by SparkRental. We try to mix up the timelines <\/span>on<\/span> the investments we make<\/span> so that investors can stagger their repayments. <\/span><\/p>\n\n\n\n

For example, the shortest investment we ever made was for nine months. We\u2019ve also invested for 12 months, 15 months, three years, and everything up to \u201cindefinite.\u201d Don\u2019t get too scared off by that last one\u2014the operator plans to refinance and return our capital within four years or so<\/span>, but the<\/span> investment will be held indefinitely for ongoing cash flow after that (what some investors call \u201c<\/span>infinite returns<\/span><\/a>\u201d). <\/span><\/p>\n\n\n\n

3. Minimum Investment<\/span><\/h2>\n\n\n\n

Likewise, say an operator says, \u201cI have an investment that pays a 20% annualized return with low risk\u2014but the minimum investment is $1 million.\u201d<\/span><\/p>\n\n\n\n

More commonly, the minimum cash investment for <\/span>either<\/span> active or passive real estate is $50,000 or $100,000. <\/span>But I\u2019ve seen minimum investments at $250,000, $500,000, and <\/span>yes,<\/span> $1 million.<\/span> <\/span><\/p>\n\n\n\n

If you don\u2019t have the minimum investment available, you can\u2019t partake, no matter how high the returns are or how low the risk is. That\u2019s unless you go in on it with a group of other investors\u2014like our Co-Investing Club or your <\/span>own<\/span> group of friends and family. In our case, I invest $5,000 at a time in each monthly deal <\/span>that we<\/span> look at together as a club. <\/span><\/p>\n\n\n\n

If you form your <\/span>own<\/span> private investment club, it depends on how many members you gather and how consistently they each invest.  <\/span><\/p>\n\n\n\n

4. Accessibility<\/span><\/h2>\n\n\n\n

Even if you have the money, you <\/span>still may not be able<\/span> to invest.<\/span> Why? Because the Securities and Exchange Commission (SEC) restricts access to most private equity investments to accredited investors. To qualify, you need a net worth of at least $1 million (not including equity in your home), or you must have earned at least $200,000 a year for the last two years ($300,000 for married couples). <\/span><\/p>\n\n\n\n

Notice that I said \u201cmost,\u201d not all private equity investments. <\/span>That\u2019s <\/span>a core value of ours<\/span>: finding <\/span>investments that allow everyone<\/span><\/a>, not just wealthy accredited investors.<\/span> <\/span><\/p>\n\n\n\n

5. Tax Benefits<\/span><\/h2>\n\n\n\n

In our<\/span> equity investments<\/span>, we<\/span> get the full tax benefits of owning real estate.<\/span> We get not only depreciation but also accelerated depreciation from cost segregation studies. Plus, all the expenses deducted will be passed on to us when we get a K1 at the end of the year. That means that most of my K1s show a \u201closs\u201d on paper, even though I collected cash flow from distributions throughout the year. <\/span><\/p>\n\n\n\n

When the property does sell <\/span>in<\/span> one, three, or five years from now, I pay taxes on the profits at the long-term capital gains tax rate. <\/span><\/p>\n\n\n\n

Debt investments don\u2019t come with any of those tax benefits. You get a 1099-INT at the end of the year, and you pay taxes at the regular income tax rate. <\/span><\/p>\n\n\n\n

Don\u2019t get me wrong: I invest in debt <\/span>too<\/span>. It <\/span>just<\/span> doesn\u2019t come with the same tax benefits\u2014which adds another dimension to the investment. <\/span><\/p>\n\n\n\n

6. Diversification<\/span><\/h2>\n\n\n\n

Imagine I have nothing but <\/span>Cleveland<\/span><\/a> rental properties as my entire investment portfolio. Another Cleveland rental property comes along\u2014should I buy it? <\/span><\/p>\n\n\n\n

I could, of course. But that adds to the concentration risk in my portfolio, even if that new prospective property <\/span>itself<\/span> looks relatively low risk and offers high potential returns. <\/span><\/p>\n\n\n\n

What would happen if the Cleveland unemployment rate rose and the population declined, driving down rents and property values? What if they never recovered? <\/span><\/p>\n\n\n\n

That happened in my <\/span>own<\/span> hometown of <\/span>Baltimore<\/span><\/a>, by the way. In the 1960s, Baltimore City had a population of 1 million residents. Today it\u2019s around 600,000.  <\/span><\/p>\n\n\n\n

I\u2019d <\/span>rather<\/span> invest $5,000 apiece in real estate across many <\/span>different<\/span> cities, operators, <\/span>types of property<\/span>, and timelines.<\/span> For that matter, I diversify across many <\/span>types<\/span> of passive real estate investments: <\/span>private partnerships<\/span><\/a>, private notes, real estate syndications, equity funds, and debt funds. <\/span><\/p>\n\n\n\n

And that\u2019s just my real estate investments. I also keep around half of my net worth in stocks.<\/span><\/p>\n\n\n\n

7. Resilience<\/span><\/h2>\n\n\n\n

The notion of<\/span> diversification hints at another dimension to investments: resilience to shocks.<\/span> <\/span><\/p>\n\n\n\n

Take recessions as a <\/span>common<\/span> example of a shock. Some types of properties are far more resilient in recessions than others. <\/span>Class D <\/span>multifamily<\/span><\/a> properties experience high rent default rates, eviction <\/span>rates, turnover rates<\/span>, and vacancy rates in recessions.<\/span> Class A down through B+ multifamily properties don\u2019t dip nearly as much. <\/span><\/p>\n\n\n\n

Another example <\/span>is mobile home<\/span><\/a> parks, where residents own their <\/span>own<\/span> homes, which are resilient in recessions. It costs $4,000 to $10,000 to <\/span>move a double-wide mobile home<\/span><\/a> and $10,000 to $14,000 to move a triple-wide\u2014far more than continuing to pay the lot rent. <\/span><\/p>\n\n\n\n

We\u2019ve invested in mobile home parks in our Co-Investing Club<\/span>, along with<\/span> multifamily, retail, industrial, vacation rentals, hotels, and more.<\/span> When we invest in affordable housing, we like to see <\/span>an<\/span> extra<\/span> protection of risk<\/span> in place.<\/span> For example, we\u2019ve invested in properties where the operator partners with the local municipality to designate half the units for affordable housing, capping the rents in exchange for a property tax abatement. <\/span>The cash flow math not only works in our favor<\/span>, <\/span>but <\/span>it<\/span> also means that those units are virtually never vacant.<\/span> <\/span><\/p>\n\n\n\n

And in a recession, those units would become even more coveted. <\/span><\/p>\n\n\n\n

8. Personal Values<\/span><\/h2>\n\n\n\n

Personal values also impact investors\u2019 decisions. <\/span>For instance, upstream oil and gas drilling has delivered <\/span>15% to 20% returns <\/span>historically<\/span><\/a>.<\/span> Yet many investors don\u2019t want to put their money in fossil fuels for personal reasons.<\/span><\/p>\n\n\n\n

This kind of investment offers high <\/span>historical<\/span> returns and potentially low risk\u2014and it doesn\u2019t matter because there\u2019s more to investing than just risk and returns.  <\/span><\/p>\n\n\n\n

9. The Many Types of Risk<\/span><\/h2>\n\n\n\n

It\u2019s also worth noting that \u201crisk\u201d isn\u2019t a monolith. Investments can come with many <\/span>types of<\/span> risks<\/span><\/a>, and you should gauge all of them before slapping a simplistic label like \u201clow risk\u201d or \u201chigh risk\u201d on an investment. <\/span><\/p>\n\n\n\n

A few common types of investment risks include:<\/span><\/p>\n\n\n\n