Obviously, there’s no such thing as risk-free investing, but there are always ways to reduce your risk. This includes a number of effective strategies to minimize risk in real estate investing—an investment area that can carry particularly high risks if you don’t do your homework.
Warren Buffet once said, “Risk comes from not knowing what you’re doing.” So, the most important step in reducing risk with real estate investments is to study diligently before you start, and to never stop reading and learning more. While you’re bound to make mistakes, and learning from experience is part of the process, real estate investing isn’t just some learn-as-you-go endeavor.
Aside from learning all you can and brushing up on some of the most common mistakes real estate investors make, here are some specific steps you should take to minimize risk in real estate investing.
How to Minimize Risk in Real Estate Investing
- Invest in different types of real estate. You’ve heard about “diversifying your portfolio” to limit risk associated with individual types of investments or market factors. This applies to real estate, too. Invest in various types of real estate, such as single-family homes, duplexes, multi-family homes, mobile home parks, commercial property, industrial property, land, etc.
- Invest in property in different locations. This is another key way to diversify your real estate portfolio. Don’t put yourself at the mercy of one local market. Today, it’s easier than ever to invest in and manage properties from afar—even internationally. Take a look at these tips for long-distance real estate investing to get some ideas as to how to start.
- Invest in real estate in different ways. There are plenty of ways to invest in real estate. It goes well beyond rental properties and property flipping—two well-known methods. Select varying ways to put your money into real estate, which may also include real estate investment trusts (REITs), crowdfunding development projects, real estate exchange traded funds (ETFs), holding stock in real estate-related companies, and more.
- Be diligent about research and forecasting. Research the local real estate market thoroughly, including comparable sales, rental rates, average vacancy rates, and so on. Hire third-party providers for things like environmental site assessments and property condition reports. Get quotes in advance for ongoing costs like property insurance, yard maintenance, janitorial services, etc. as applicable. Carefully vet all tenants, including background and credit checks.
- Trade risk for predictable costs with insurance. Take out extra insurance for your properties for insurable catastrophes. Also, consider business interruption insurance if you have rental properties, in the event they become temporarily unrentable due to some type of damage. By accepting the relatively small cost of monthly premiums, you protect yourself against the risk of significant, unpredictable costs.
- Avail yourself of contractual risk transfer. Whenever possible, shift risk away from yourself in the different types of contracts you enter into as a real estate investor. For example, pay the extra cost to get a warranty on your property’s new roof or appliances. Triple net leases are an option for shifting risks associated with variable operating costs to tenants.
- Form an ownership entity. By investing in real estate under an ownership entity such as a limited liability company (LLC), limited partnership (LP), or corporation, you can significantly limit personal risk. A number of factors determine which type of entity is feasible and would make the most sense, so consult your tax professional or financial adviser about this.