Invest in Real Estate or Start a Franchise: Which Investment Opportunity Suits You?

This story was originally published at BiggerPockets.com

Real estate and franchising are two popular investment options offering significant financial returns. Both allow you to earn passive income, enjoy tax benefits, and benefit from regular cash flow. However, a real estate franchise and real estate investing each have pros and cons to consider.

If you are considering investing in the housing market, which business model is best for you? Long-term wealth through property appreciation and regular rental income that real estate offers? Or the opportunity to own a tried-and-tested business model with instant brand recognition?

We’ll discuss whether investing in real estate or starting a franchise is best for your financial goals.

Understanding Real Estate

Real estate investing strategies involve purchasing, owning, and managing residential or commercial properties. The goal is to build wealth by generating passive income through rental income, capital appreciation, or both.

Investment strategies can include:

Why do many investors choose real estate as their primary investment strategy? Let’s briefly discuss the pros and cons of real estate.

Pros

Here are five benefits of real estate investing:

  1. Build equity: Your net worth grows as you pay down your mortgage and property value increases. This also increases your borrowing power through home equity loans.
  2. Tax benefits: You benefit from tax deductions, which help maximize income potential. These include payments on mortgage interest, utilities, maintenance, and HOA fees.
  3. Passive income streams: Owning one or more rental properties is a reliable income source. Of course, conducting due diligence regarding tenant screening is crucial. However, rent payments from tenants can provide regular income and steady cash flow.
  4. Hedge against inflation: Real estate investing is one of the best strategies to protect against inflation. As inflation rises, so do property prices. Also, you can raise rent prices in line with inflation. This offsets the impact of costlier maintenance and higher outgoings.
  5. Portfolio diversification: Investing in real estate lets you spread investments across different classes. Therefore, you minimize the impact of real estate market downturns and higher inflation. For example, investment types for real estate investing include:

Cons

Making an informed decision about real estate investing requires considering the potential downsides. Here are three things to think about:

1. High upfront costs: Purchasing an investment property requires significant upfront costs. These include the down payment, closing costs, and repair expenses.

2. Poor liquidity: Selling an investment asset for its market value can take time, so you may lose money if you need immediate cash and must quickly sell an asset. This is especially true if you’re in a buyer’s market.

3. Property management: Managing rental properties or house-flipping projects can be time-consuming. Tenant screening, marketing, maintenance, and emergency repairs can take a lot of time.

Who might be interested in real estate—what is the appeal?

A real estate career works for building long-term wealth and increasing income. Property ownership gives you:

  • Tangible assets
  • Equity growth
  • Extra borrowing leverage
  • Greater financial stability

Additionally, investing in real estate is perfect for diversifying your portfolio. This allows you to maximize returns and minimize losses in economic uncertainty.

Understanding a Franchise Investment

Opening a real estate investment franchise lets you invest in a proven business model. Investors benefit from the brand recognition, credibility, and support the franchisor provides. Real estate franchises can include:

  • Property management
  • House flipping
  • Home inspections
  • Buying and selling properties

To open a real estate franchise, you must pay an initial franchise fee and royalty fees—typically between $25,000 and $35,000. Additionally, some franchise companies require you to have a certain amount of liquidity. And you may have to commit to making a substantial initial investment on top of the franchise fee.

Let’s look at the pros and cons of a real estate franchise to help you make an informed decision.

Pros

Here are five benefits of opening a franchise as a real estate investment opportunity:

1. Brand recognition and credibility: Franchisees benefit from the established brand name. This creates trust and credibility, making it easier and quicker to attract new clients.

2. Access to marketing resources: You use marketing materials and advertising from the franchisor. These materials can include flyers, website content, brochures, and marketing tools. This means you can promote your business services more effectively.

3. Proven business model: Franchises are based on a tested and successful business model. Therefore, you reduce the risks associated with starting a new venture. Also, the franchisor usually provides training and ongoing support.

4. Networking opportunities: You can benefit from access to a wide network of other franchise owners. You also get access to brokers and agents who will help build your business.

5. Limit risk exposure: Starting a franchise saves time, money, and resources on trial and error. You can get started using a proven business model that is more likely to succeed.

Cons

What are the primary downsides to opening a franchise real estate business? Here are four things to think about:

1. High startup costs: You must pay an initial fee to start your real estate career. In many cases, you must also provide a substantial investment, usually between $40,000 and $400,000.

2. Ongoing costs: Royalties or commission fees are part of franchising real estate. Some franchises have a set monthly amount, while others take a percentage of earnings plus advertising costs.

3. Limited independence: You must follow the rules and regulations the franchisor imposes. This can limit your control, as you must stick to the standardized business model. In some cases, adapting to local market conditions may be impossible.

4. Exit restrictions: Exiting a franchise agreement may be challenging. Some agreements include noncompete clauses, and contracts tend to favor the franchisor.

Who might be interested in opening a franchise—what is the appeal?

Opening a franchise is ideal if you want a turnkey solution to start a real estate career. Franchise real estate models provide a proven business model, reducing the risk of failure. So if you are a first-time business owner or entrepreneur with limited real estate experience, a franchise may be your answer.

Choosing Which Opportunity Is Right for You

Investing in a franchise or in real estate can both be lucrative ventures. Some investors prefer the structured business model a franchise offers.  However, many real estate investors prefer the freedom, autonomy, and flexibility independent business ownership provides.

Let’s examine several factors that can help you make informed investment decisions.

Financial considerations

Assessing the financial implications of a franchise or real estate can help make the best decision. Both investment strategies involve significant startup costs. Opening a franchise involves an initial fee and investment, plus ongoing royalty fees. However, buying real estate requires a down payment and paying closing costs.

What are more financial considerations when comparing a franchise as an investment opportunity and real estate?

Besides the startup costs, here are a few extra franchise expenses to consider:

  • Ongoing franchise fees—usually a percentage of your gross revenue
  • Marketing and advertising costs
  • Training fees
  • Transfer and renewal fees when the initial term expires
  • Extra costs associated with selling the franchise

Real estate investing also has high upfront costs. Here are some expenses to consider:

  • Down payment
  • Closing costs
  • Marketing and advertising costs
  • Real estate attorney fees
  • Professional liability insurance
  • Fees associated with mortgage applications
  • Regular mortgage payments
  • Property taxes
  • Property maintenance, repairs, and utilities

Buying and selling real estate as a franchise owner also incurs fees. In both business models, you must pay the mortgage, closing costs, property taxes, and maintenance costs. 

Risk assessment

All investments carry an element of risk. Therefore, assessing the risk level of franchise and real estate investing is critical. 

Here are some factors to consider:

  • Current market conditions: Research the real estate market before choosing between real estate franchising and independent investing. Due diligence is always necessary before buying real estate. If you are considering a franchise, ensure there’s enough market demand. Also, check local competition from other franchises.
  • Independent investor or national franchise: Remember—many homeowners or buyers prefer dealing with a local independent real estate agent rather than a large brand. Therefore, you have more opportunities to develop a unique selling point as an independent investor.
  • Control over the investment: Are you willing to follow the franchisor’s strict guidelines? You may have little control over pricing, design, product offerings, and operational hours. However, being an independent investor gives you all the freedom and control you want. Also, if you break the franchisor’s rules, you may lose the contract and your investment.
  • Exit strategy: All investments require a robust exit strategy. Before opening a franchise, check the agreement carefully. For example, selling the franchise, transferring ownership, or liquidating it may incur hefty fees. Of course, an exit strategy in real estate investing is also vital. Common exit strategies include selling, refinancing, holding, or renting.
  • Expansion opportunities: Consider the possibilities of expanding your real estate investing business. For example, the franchise agreement may restrict where you can operate. This restriction can limit investment opportunities if the local housing market experiences a downturn. In contrast, real estate investing gives you complete flexibility to find the most profitable markets.
  • Reputation risk: The franchisor’s brand reputation can be an advantage or disadvantage. For example, adverse events or bad press connected to the franchisor could harm your business. However, as an independent investor, you are responsible for your reputation.

Personal goals and lifestyle

Before deciding between a franchise or real estate investing, consider which best aligns with your goals. For example, a franchise agreement may commit you to working specific hours. On the other hand, real estate investing is more flexible. However, it requires time and effort to establish a business.

Here are a few helpful tips on making a decision:

  • Time commitment: Getting started in real estate investing can take considerable time. Startup investors face a steep learning curve to establish a reputable business. And it may mean working long, irregular hours. However, opening a real estate franchise allows you to step into a long-established business. This can make it easier and quicker to secure new clients and listings.
  • Skill sets: Getting started with a franchise real estate business is easier than going it alone. For the initial fee, you get out-of-the-box tools, training resources, and marketing materials. You are also instantly connected to a network of agents and experts. What about getting help with real estate investing? BiggerPockets provides expert advice to get started in real estate. For example, the seven SMARTER phases of real estate investing have helped startups run successful businesses.
  • Long-term objectives: Consider your long-term financial goals. It can be quicker to start a franchise real estate business. However, constant overhead costs can eat into your profits. Also, your earnings may take a significant hit if you decide to sell the franchise. In contrast, real estate investing represents better long-term returns. In time, you may enjoy a steady passive income stream from rental properties.

Other considerations include: 

  • Levels of franchise support
  • Continued training and education
  • Your risk tolerance
  • A noncompete clause may restrict operating in the local housing market if you leave the franchise
  • Restrictions on the property types you can manage

Making the Decision

It’s vital to conduct due diligence before making any investment decision. A franchise lets you start a real estate business under a recognized brand name, with fewer risks. Yet it comes with restrictions and financial obligations. 

In contrast, real estate investing offers:

  • More flexibility
  • Wider investment opportunities
  • Better profit potential

However, thoroughly researching local markets, trends, and property values is vital in all cases.

Final Thoughts

Real estate investing and opening a franchise can offer lucrative investment opportunities. Your decision as to which to choose should align with your personal goals, lifestyle, and long-term objectives. Therefore, research the pros and cons of each to make an informed choice.

Despite the steep learning curve, real estate investing offers greater potential for building long-term wealth. You enjoy greater flexibility and more diverse investment opportunities. Also, you never have to pay ongoing royalties to a franchise company. At BiggerPockets, we are dedicated to helping you make successful real estate investments.

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Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.

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