Buying Real Estate for only $100: REITs vs Rental Property

So here's how you can invest in real estate with as little as $100. Not clickbait, but for real though, this is a way that you can invest in real estate with pretty much whatever money you have saved up right now without doing any of the work yourself. There is no buying, there is no selling, there is no renovating properties, there is no trying to find tenants, and there is no dealing with 2:00 a.m. phone calls of a broken toilet that you have to fix. You pretty much just invest your money and earn money passively no matter what you do. This is called a REIT, which stands for Real Estate Investment Trusts.

But how does this compare with just straight-up owning real estate, and is it even worth owning a REIT to begin with? So let's find out. I'm going to be discussing the positives and the negatives of owning a REIT, as well as the positives and the negatives of straight-up just owning real estate. That way, you can pretty much decide on your own which one is really the better choice. Not financial advice.

So first, let's talk about REITs. REITs are really just an investment that acts as a holding company for real estate. Now, usually, REITs have a specialization in the sense that some focus on warehouses, others focus on apartment buildings, and some focus on senior citizen communities. Each REIT usually has a different specialization, but by investing your money into this company, you're thereby entitled to part of their profits in the form of dividends. This means that you could potentially own a small share of maybe a 50, 100, or even 200 million-dollar real estate portfolio for really as little as 50 or $100.

This sounds pretty good, right? So let's talk about some of the positives with all of this. First of all, there's pretty much zero barrier to entry. Pretty much anyone, fifty to a hundred bucks, can invest in this. This is unlike real estate, where you have to come up with anywhere from about 10% to sometimes 20 or 25% and have to qualify for a loan from the bank in order to buy it. With the REITs, you can pretty much just invest whatever money you have on you, and that's as easy as it is.

It's also really, really easy to invest and buy into a REIT. You pretty much go on any stock trading website or app, you click the little buy button, and you're done. That's it! You don't need to go out for months looking for properties that cash flow. You don't need to deal with showings. You don't need to deal with renovations or dealing with banks or appraisals or inspections or anything like that. All you have to do is literally just click the little buy button with whatever money you want to invest. Someone else has basically already done all the work for you, so all you have to do is invest your money, sit back, and say that you own like one ten-thousandth of the mega strip mall down the street.

There's also no managerial aspects of dealing with a REIT. Now when you're a landlord, you have to deal with tenants. You have to make sure they pay their rent on time. You have to make sure all the expenses are paid and the property is kept up. With owning a REIT, you don't have to do anything because it's already taken care of for you. It's also really, really easy to sell a REIT. You don't have to pay a five percent commission to a real estate agent. You don't need to deal with showings or inspections or negotiations or anything like that. It's just as easy as it is when you buy it. All you have to do is instead of clicking buy, you just click the button that says sell.

Now finally, with the REITs, you're really well diversified. It's not like you only own one property with one tenant with one roof and all that sort of stuff. We've all heard it all. With the REITs, you can potentially own hundreds or even thousands or tens of thousands of pieces of real estate and just own a fraction of all of them. With this, your risk is pretty well spread out. So if something happens to one building, that's totally fine because chances are you have a few thousand other buildings that make up for that.

And with all of this, you can get a pretty easy consistent two and a half to sometimes six to seven percent return annually, depending on the type of REIT and the type of real estate they're invested in. So from the surface, this might seem like a really good deal; it might seem like blue skies and smooth sailing ahead. But there is a dark side to REITs that we should discuss because there are a few negatives to all of this that are really important to know.

The biggest downside I see when it comes to REITs is how the income that they pay you is taxed. And you are paid in the form of dividends. This is an amount that usually gets paid quarterly, but for you, this means it gets taxed as earned income, which also means that it's taxed at your highest marginal tax rate. This means you could be paying anywhere from 22 percent to 37 percent income tax, depending on how much money you make. And this is absolutely ridiculous. This is a huge disadvantage to owning a REIT because basically, one-third to one-fourth of your money is already taken away to taxes right off the bat.

The other downside with owning a REIT is that because they pay out high dividends, their stock price usually doesn't increase much in value. Now if you look at prices historically, you'll see that there's a huge surge in REIT prices from about 2010 to today. That's as the entire real estate market has just gone up in value. But overall, the price of REITs remains somewhat stable. It might have a deviation of maybe plus or minus 5%, but overall it's pretty much about the same price. This means that you're really not seeing a huge amount of growth in the stock price increasing, but you're really just trading your money and exchanging it for quarterly dividend payments.

This is unlike owning a stock in a company where the stock price might actually go up over time. Then if you hold it for a year, you sell the stock price up here because you bought it down here, and then you pay a long-term capital gains rate at a much lower rate than if you get a dividend payment instead. Now the third downside is here with this, is that you have zero control over your investment.

Now this is unlike owning physical real estate, where you can basically pick the color on the wall. You can pick the renovations that you can do. You can pick the tenant that pays the highest price. You can pick where you buy real estate that you feel is undervalued. When it comes to a REIT, you don't have any control over this whatsoever, and generally, this means that you tend to get a slightly lower return because you don't have control over the investment, and you don't necessarily do what yields the highest returns. Now some people will certainly see this as a positive, and that they don't want any responsibilities. They don't want any control; they just want to invest their money and be done.

But usually, if you know what you're doing, you're able to get a much higher return than if you leave it to somebody else to do it for you. Now you also can't build equity in a REIT like you can in real estate. Now when you own physical real estate, you're putting a small amount of money down and getting a long-term loan on that, and every single month you're paying down the loan, increasing the equity in your property. Then after maybe fifteen to thirty years, you own the property outright. And there you go; you've just leveraged your money and built equity over a long period of time.

With the REIT instead, all you're doing is just putting in your money, and whatever money you put in is pretty much what it's worth. So with that out of the way, let's talk about actually physically owning real estate. We'll first start with some of the downsides about real estate. The first one that I see is the high barrier to entry in the form of needing a down payment and needing a loan to actually support those payments. Like you can't just go out and buy a $500,000 property if you don't have the down payment or don't make the income to support those payments. This usually disqualifies most people from investing in real estate, especially if they're in an expensive area like Los Angeles, where the typical down payment could be anywhere from fifty thousand to over two hundred thousand dollars just to buy.

Saving this amount of money is probably the biggest downside I see because not only does it take a lot of time to save that money, but it also takes a lot of discipline, and it also requires a high income to have enough money left over to save—not to mention the credit needed for a bank to actually approve you on that loan. And this is probably the biggest obstacle that I see when investing in physical real estate.

Now the second downside to investing in real estate is the time commitment. Now it took me six months to find a property that was worth buying. It took me another 30 days to actually close on that property, do all my inspections, get my loan, and appraisal, and everything else that goes along with that. Then it took me another two months of renovating it for it to be ready. That's a total of nine months from start to finish. Then you also have the time aspects of actually managing a rental property. Now this is generally something where you put a lot of time in upfront, and then overall long term it's really not too much work.

I would estimate I probably spend about an hour a month managing five rental properties, which really isn't too bad. But in the very beginning, I did spend a ton of time getting it to the point where for the most part, it's pretty automated. This doesn't happen at all with a REIT.

Now the third downside I see is lack of immediate liquidity. I can't just go out and sell a property and get the money the next day. Typically, the very best case scenario is it takes about two weeks; realistically, it's more like thirty to sixty days to actually sell something and get my money. But it's not really that simple. I have to get professional pictures done. I have to put it on the market. I have to show it. I have to negotiate offers, and it's quite a process to actually sell physical real estate. Now compare this to a REIT, where you just click the little sell button and you're done.

So now let's talk about some of the advantages of actually owning physical real estate. The first one is that you can actually leverage your money. This is probably one of the biggest advantages of actually owning physical real estate. Now, while it is true that with REITs, you are investing in a portfolio that does leverage real estate, but when you do that, your returns are generally a lot smaller than when you do it yourself. Now when you think of it this way, making 5% on a REIT that’s taxed at a really high tax rate is really low, considering you can make eight to sometimes twelve percent return by actually owning real estate, not paying taxes on that, and then also getting all the tax benefits in the equity of actually physically owning real estate.

Secondly, what I mentioned is that your income from owning actual real estate is usually entirely tax-free. This is because you're able to depreciate and deduct all the expenses associated with owning that rental property, including actually depreciating the structure itself against the income. So without getting too complicated on this, you're basically able to depreciate the cost of the structure over a period of twenty-seven and a half years. This means that if the structure of real estate is worth two hundred and seventy-five thousand dollars, you can depreciate ten thousand dollars per year against your rental income, and this is exactly why most of the time you end up paying zero tax on rental income. Compare this to paying 22 to 37 percent income tax on a dividend from a REIT.

Third, you have total control over your investment, which means that you have the ability to find a very, very good deal that's undervalued, where you can add more equity to it. Real estate is such a localized market, and every single property is different from one another. You could, for instance, find a seller who's really distressed, who just needs to sell it, who sells it a hundred thousand dollars below what it's worth, and bam! You just made a hundred grand from one deal.

And when you know your market really well, you can do specific renovations to get the highest dollar amount possible. This means that usually, by physically owning real estate, you can maximize your returns as much as you can. And fourth, you're able to borrow money from the equity in your home completely tax-free, and that's called the cash-out refinance. So let's say your home is now worth five hundred thousand dollars, and your mortgage is only two hundred thousand dollars. This means that you have three hundred thousand dollars of equity in that property. You're pretty much able to borrow up to eighty percent of the equity that you have in that property.

So on three hundred thousand, you can pull out eighty percent of that as cash and not pay any taxes on that. This means you could pull out all the money that was stuck in real estate, invest it elsewhere, and not pay any taxes on those gains. So at the end of the day, this is really what it comes down to. If your goal is to build long equity in value, owning physical real estate is really the way to go. Even though it's more money and more time out of pocket when you buy an investment property, you're continually building equity in a tangible asset.

At the same time, you have a tenant who's paying down your mortgage; your equity stake increases at the same time, and also, at the same time, your property long-term appreciates in value. Having more equity in a property like this gives you the ability to borrow against that money in the future and then use that money to continue to buy more assets and thereby also growing your portfolio.

So basically, with this, it's more work; it's more time; it's more money, but the outcome is a much higher return. However, if you don't have a lot of money and you don't want to spend any time on this, but you still want exposure to real estate, a REIT could be a good way to diversify. It's probably best to hold a REIT in a tax-advantaged account like a 401(k) or Roth IRA so that way you don't have to pay insane taxes on the money that the REIT gives you. This way you get all the benefits of owning a REIT and having exposure to real estate without being burdened by the tax obligations of being taxed from dividends.

At the end of the day, it really comes down to this: owning real estate will give you more control over your investment, more return on your investment, you'll have more equity in your investments, and long term, it's just going to make you more money. But those upsides are usually weighed down by the high barrier to entry and high time commitment when you're first doing this for absolutely zero work.

If you still want a pretty good return, chances are just a well-diversified index fund would be your best choice. Probably that even over a REIT, or you just buy a REIT but hold it in a tax-advantaged account, so that way you don't get taxed a stupid high amount on those dividends. But ultimately, the choice is really up to you.

Now personally, I much prefer investing in actual real estate over a REIT. And between a REIT and an index fund, I would rather just invest in an index fund, hold it long term, and whenever you sell it, you get a long-term capital gains tax instead of being taxed really high on a dividend. But like I said, this is not financial advice, and this is purely for entertainment purposes only. You should consult with a professional and not listen to some guy on YouTube for all of your financial advice.

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