Real Estate: Definition, Types, How to Invest in It

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What Is Real Estate?

Real estate is defined as the land and any permanent structures, like a home, or improvements attached to the land, whether natural or artificial.

Real estate is a form of real property. It differs from personal property, which is not permanently attached to the land, such as vehicles, boats, jewelry, furniture, and farm equipment.

Understanding Real Estate

The terms land, real estate, and real property are often used interchangeably, but there are distinctions.

Land refers to the earth’s surface down to the center of the planet, including the trees, minerals, and water. The physical characteristics of land include its immobility, indestructibility, and uniqueness, where each parcel of land differs geographically.

Real estate encompasses the land, plus any permanent artificial additions, such as houses and other buildings. Any additions or changes to the land that affect the property’s value are called an improvement.

Once land is improved, the total capital and labor used to build the improvement represent a sizable fixed investment. Though a building can be razed, improvements like drainage, electricity, water, and sewer systems tend to be permanent.

Real property includes the land and additions to the land, plus the rights inherent to its ownership and usage.

What Are Types of Real Estate?

Residential real estate: Any property used for residential purposes. Examples include single-family homes, condos, cooperatives, duplexes, townhouses, and multifamily residences.

Commercial real estate: Any property used exclusively for business purposes, such as apartment complexes, gas stations, grocery stores, hospitals, hotels, offices, parking facilities, restaurants, shopping centers, stores, and theaters.

Industrial real estate: Any property used for manufacturing, production, distribution, storage, and research and development.

Land: Includes undeveloped property, vacant land, and agricultural lands such as farms, orchards, ranches, and timberland.

Special purpose: Property used by the public, such as cemeteries, government buildings, libraries, parks, places of worship, and schools.

The Economics of Real Estate

Real estate is a critical driver of economic growth in the U.S. Housing starts, the number of new residential construction projects in any given month, released by the U.S. Census Bureau, is a key economic indicator. The report includes building permits, housing starts, and housing completions data for single-family homes, homes with 2-4 units, and multifamily buildings with five or more units, such as apartment complexes.

Investors and analysts keep a close eye on housing starts because the numbers can provide a general sense of economic direction. Moreover, the types of new housing starts can give clues about how the economy is developing.

If housing starts indicate fewer single-family and more multifamily starts, it could signal an impending supply shortage for single-family homes, driving up home prices. The following chart shows 20 years of housing starts, from Jan. 1, 2000, to Feb. 1, 2020.

How to Invest in Real Estate

Some of the most common ways to invest in real estate include homeownership, investment or rental properties, and house flipping. One type of real estate investor is a real estate wholesaler who contracts a home with a seller, then finds an interested party to buy it. Real estate wholesalers typically find and contract distressed properties, but they don’t perform any renovations or additions.

The earnings from investing in real estate are generated from rent or leases, as well as an appreciation of the real estate’s value. Real estate is dramatically affected by its location, and factors such as employment rates, the local economy, crime rates, transportation facilities, school quality, municipal services, and property taxes can affect the value of the real estate.

Investing in real estate indirectly is done through a real estate investment trust (REIT), a company that holds a portfolio of income-producing real estate. There are several types of REITs, including equity, mortgage, and hybrid REITs, which are classified based on how their shares are bought and sold. These classifications include publicly-traded REITs, public non-traded REITs, and private REITs.

The most popular way to invest in a REIT is to purchase shares that are publicly traded on a stock exchange. The shares trade like any other security traded on an exchange, making REITs very liquid and transparent. Income from REITs is earned through dividend payments and appreciation of the shares. In addition to individual REITs, investors can trade in real estate mutual funds and real estate exchange-traded funds (ETFs).

Another option for investing in real estate is through mortgage-backed securities (MBS), such as the Vanguard Mortgage-Backed Securities ETF (VMBS), which comprises federal agency-backed MBS with a minimum pool size of $1 billion and a minimum maturity of one year. The iShares MBS ETF (MBB) focuses on fixed-rate mortgage securities and tracks the Bloomberg U.S. MBS Index. Its holdings include bonds issued or guaranteed by government-sponsored enterprises such as Fannie Mae and Freddie Mac.

The Bottom Line

Real estate is land, any buildings or improvements on it, and any natural resources. There are various types of real estate, including commercial, land, industrial, and residential properties. You can own real estate or invest in it through real estate investment trusts, mutual funds, and exchange-traded funds.