Once upon a time there were two very different real estate investors.
Both were very optimistic about real estate and the investment benefits that go with it. Both attended meetings, frequented industry conventions, and read real estate news in their area. Both even knew they could use real estate in self-directed retirement accounts (SDIRAs) to defer or even eliminate any tax implications.
But, there was one way these two investors were VERY different in how they real estate.
One purchased the property. One purchased the paper.
Let’s look at their two different lives in real estate.
The Property Owner – Real Estate Investing
The Property Owner found a property and either purchased it outright or took out a loan.
Then, after fixing up the property, they would:
- resell for a profit.
- hold it and find a renter.
Finding a renter was often the fun part. They wanted to make sure they found someone with strong enough credit (and pay record) so they would not have to chase them every month trying to collect a rent check.
This was particularly important if the property owner had an underlying loan to pay.
Then came the occasional repairs or costs to maintain. Renters are not going to be the ones paying for a broken faucet, leaky hot water heater, property taxes, or a new roof.
But that was ok — as long as the rent money coming in exceeded the expense of owning the property, the investment could grow.
A month (or several months in a row) without a renter is problematic to the investment, many times causing the real estate investor to go back into their pocket to cover expenses.
There is a big plus side. If the property increases in value the property owner would get all the benefits of that increase as well.
A downside is that a property owner is hardly a ‘passive’ investment.
Even if you hire a property manager there are still decisions to be made and expenses to be covered.
The Paper Owner – Note Investing
The Paper Owner is someone who invests in the cash flow, “the note.”
When an owner sells a property and carries back the loan – like an ‘Owner Will Finance’ situation — the buyer of the house makes payments directly to the seller (bypassing the banks).
This happens in about 5-6% of all real estate transactions. So, there are plenty of them out there.
The paper owner collects payments every month (following the terms of the purchase).
The mentality of the payor is also very different in this case. This is not a ‘renter’ that has no vested interest in the property – this is someone who has chosen to purchase this property and make it their home.
The buyer of the property can make payments directly to the paper owner but, likely, they will use a third-party servicer that will collect the payment and make the necessary deposits. These deposits can be in the paper owner’s regular bank account or even a retirement account if that is how the deal was set up from the beginning.
Passive Income with Real Estate Notes
In either case, the paper owner is more of a ‘passive investor.’
For all intents and purposes, paper investors are like a bank (and have many of the same rights and benefits). No one calls a bank when the plumbing is backing up or the roof has a leak – that is the responsibly of the property owner.
If lifestyle was not a benefit, the control of investment type certainly is.
A paper investor can choose what type of property they want to be in, how much they would like to be exposed, and even what type of return they want on their money. It is that type of flexibility that, in our opinion, gives a big edge to the paper owner.
Both are real estate, just one must be a little more hands-on.
While you can make money in either case, pay attention to the lifestyle you want while doing it — creating your own fairy tale ending.