Residential real estate: investing vs. speculating

What do I need to know before investing in residential real estate?

Residential real estate is an attractive investment that has historically created opportunities for wealth creation, tax advantages and a variety of other benefits to owners, but how can you differentiate between an investment versus speculation?

Here are three quick steps for any potential investor to use when evaluating a real estate investment:

1 Understand the numbers: Are you looking at future performance or past performance when analyzing your investment?

Investors typically use industry or market “norms” or averages for comparisons whereas speculators tend to use “possibilities” or “potential.” Norms and averages are derived from past performance whereas potential or possible is derived from future. One has been demonstrated and proven, the other is untested and, at best, a good hypothesis or guess. A local real estate agent will have all of this information available, so be sure to request it.

2 Good investing is a lot like medicine: The basic tenant is, “First do no harm.” Investors focus on creating profit while minimizing risk.

Speculators focus on maximizing profit but at the expense of safety or security. It's important to understand the local market.

3 Know your exit strategy: Investors anticipate time and profit level at which they will sell in order to gain the greatest return on investment (ROI).

Speculators tend to not have an exit strategy or a profit level at which they are satisfied.

Consult with a broker who specializes in the type of investment and area you are interested in. A broker provides valuable information on the local trends, rental rates and other metrics that impact your investment decision. Information is the critical component.