Active vs. Passive Real Estate Investing: Understanding the Differences

March 3, 2023

When it comes to real estate investing, there are two main approaches: active and passive. Before you make a decision, it’s important to understand the key differences between the two, along with their respective advantages and disadvantages. In this article, we’ll break down what each entails, so you can determine which approach is the best fit for you.

What is Active Real Estate Investing?

Active real estate investing involves taking full control of your property or properties and being actively involved in managing them. This includes tasks such as finding and securing financing, creating a business plan, executing the plan, and managing the risks that come with property ownership. Active investors are also responsible for assembling and managing the right team members, including property managers.

If you enjoy the idea of running a business, have the necessary time and resources, and want to be involved in every aspect of managing your investments, then active real estate investing might be a good fit for you. However, it’s important to be prepared for the time and effort required to successfully manage your properties, as well as the risks associated with property ownership.

Pros and Cons of Active Real Estate Investing

Before making a decision about whether active real estate investing is right for you, it’s important to consider both the pros and cons.

Pros of Active Real Estate Investing:

• Full Control: As an active investor, you have complete control over every aspect of your investment. This allows you to make decisions based on your own preferences and priorities.
• In-Depth Knowledge: By being actively involved in managing your properties, you gain detailed knowledge of every aspect of the investment. This can be valuable in making informed decisions and maximizing your returns.
• Potential for Higher Profits: If you have sufficient resources, you can be the sole investor and receive all income or profit from your investment.

Cons of Active Real Estate Investing

• Responsibility: As an active investor, you are responsible for everything, including finding and securing financing, managing the property, assembling and managing the right team, and mitigating any risks associated with property ownership.
• Time and Knowledge Requirements: Active investing requires a significant amount of time and effort to learn what you need to know to make the right decisions. This can be challenging if you have other commitments or lack experience in real estate investing.
• Risk: More of the risk typically rests with you as an active investor, including the risk of making costly poor decisions or encountering unexpected expenses.
• Renovation Challenges: Renovation budgets can get out of hand quickly, especially if you lack experience evaluating properties or get carried away with the finish of the property. This can eat into your profits or even result in losses.
• Financing Challenges: If you seek significant financing from others or institutions, you need to be able to prove why you are a good investment, which can be challenging if you lack experience or a proven track record.

What is a Passive Investor?

Passive real estate investing is a popular alternative to active investing. As a passive investor, you invest your money and leave the day-to-day management to someone more experienced. This type of investing is often done through a limited partnership or by investing in a syndication with a knowledgeable sponsor.

Here are some of the key characteristics of passive real estate investing:

• Limited Involvement: As a passive investor, you do not have to be involved in the day-to-day operations of the property. You can enjoy the benefits of real estate investing without having to deal with the headaches of property management.
• Experienced Management: Your investment is backed by someone who has a track record of success in real estate investing, such as a syndicator or experienced property manager. They handle all of the property management, including finding the property, securing financing, making a business plan, and executing the plan.
• Low Effort: Passive investing requires little-to-no effort from you, as you are not responsible for any of the property management. You simply invest your money and let the experts handle the rest.
• Solid Asset Backing: Passive investing in real estate offers a tangible asset to back your investment, unlike the stock market, where your investment is backed by intangible assets.
• Potential for Better Returns: Real estate investing can offer better returns than other types of passive investments, such as stocks and bonds, especially when you invest in a syndication or partnership with an experienced sponsor.

Overall, passive real estate investing can be an attractive option for investors who want to enjoy the benefits of real estate investing without the day-to-day responsibilities. However, it’s important to do your due diligence and invest with a knowledgeable sponsor to ensure a successful investment. Lets look at the pros and cons:

Pros of Passive Investing:

• You can be hands-off and let someone else handle the day-to-day operations of the investment
• Your money works for you while you live your life
• You can diversify through multiple syndications with the same sponsor or multiple sponsors
• You can benefit from someone else’s expertise and experience
• You have potential for strong returns, often backed by a solid asset
• You can often receive a preferred return before the sponsor receives their money
• You can develop a profitable relationship with a talented sponsor or syndication team

Cons of Passive Investing:

• You have limited control over the business plan and investment decisions
• You need to have a high level of trust in your sponsor or syndication team
• You may have less opportunity for hands-on learning and experience
• You may have limited liquidity and cannot easily access your investment if you need the money
• You may have to pay fees or commission to the sponsor or syndication team for their services
• There is potential for lower returns if the investment doesn’t perform as well as expected or if fees are high
• You may have to hold your investment for a longer period of time before seeing a return
• There is still some level of risk involved, as even the most experienced sponsors cannot guarantee a return on investment.

 

How Much Money Do I Need to Invest?

Determining the amount of money needed to invest largely depends on the investment model you choose. If you are interested in active investing, the amount of money required will depend on the type of property you are considering. For instance, single-family or multifamily properties. Some regions allow you to start with a small investment, which could be as low as a $10,000 down payment for a single-family residence, but be aware that you will need to set aside some money for emergencies and vacancies. It is essential to conduct careful calculations to ensure that your return on investment is reasonable.

On the other hand, if you’re considering passive investment, you’ll need to have at least $50,000, depending on the specific properties, areas, and opportunities available. You won’t need to worry about additional costs, and most syndications aim to offer you a very healthy ROI. This is because syndicators want you to invest with them again so that they can earn more profits for you and themselves in the future.

So Which is Right for Me?

Regardless of which investment style appeals to you the most, you will need to conduct thorough research. If you plan on actively investing, you will need to be even more meticulous because every decision will be yours. When investing significant amounts of money, it is crucial to ensure that you make informed decisions.

If you have always envisioned being an active investor but are concerned about the time commitment and the possibility of making mistakes, starting with passive investing can be an excellent way to learn the ropes and begin to understand what to look for in the future.

On the other hand, if active investing does not interest you, but you are drawn to property investing due to the security a physical asset provides, then passive investing is the perfect option for you. It can offer you all the benefits of investing in real estate without the steep learning curve or the hassles of managing your properties.

Fortunately, real estate investing is accessible to almost everyone, but selecting the right investment strategy is critical. Choosing active investing and then deciding that it’s not for you can be costly and stressful, particularly if you lack prior experience in real estate. Passive investing may be the safer choice, provided that you work with a syndicator you trust and who is willing to answer all of your questions.

If you’re interested in learning more about passive investing or our upcoming syndications, please contact us without hesitation.