Although most people think of real estate investments in terms of real property that they can see and touch, buy and sell, or rent and manage on their own, there is a popular form of real estate investment that is not as personal and interactive.
In many ways, it is easier, featuring the expectation of a steady, long-term income stream, and requiring less cash, almost no worry, and little concentrated effort. Buying shares in a real estate investment trust (REIT) is one way to create a diversified investment portfolio, and such investment opportunities are now widely available even to those with limited cash reserves and minimal investment expertise.
Instead of holding the deed to a specific piece of property, an investor in an REIT holds shares in a corporate entity that operates under strict guidelines established by the Internal Revenue Service. The law that governs such investment was actually passed in 1960. Today, it is estimated that about 80 million Americans own shares in the hundreds of REITs that are publicly traded through the SEC or offered privately by brokers and financial advisers. In recent years, there has been substantial growth in REIT investment through pension and retirement plans.
For the individual investor considering REIT investment, there are some cautions as well as some decided advantages.
Advantages of REITs
First, on the plus side, a relatively small investment is required. Buying individual properties either to rent or for resale typically requires a substantial cash outlay, but REIT investment can begin with little cash outlay. This may be the prime advantage. Because one of the regulatory provisions limits major shareholder presence in any REIT, there is a great deal of opportunity for small investors.
Additional advantages include:
- Liquidity: Particularly with publicly-traded REITs, buying and selling is as easy as contacting a licensed broker and issuing the order.
- Steady Income Stream: REITs are required to return 90% of taxable income to investors each year, in the form of dividends.
- Regulation & Transparency: Corporations operate under strict governance, and must be managed by trustees or a board of directors.
- Beneficial Risk-adjusted Return: With initial due diligence, the risk of loss over the long-term is very low.
- Minimal Growth: The possibility of capital appreciation is less than that of other investment types.
- Tax Consequences: REIT Dividends are taxed as normal income under IRS rules.
- Market Risk: All real estate value is market driven, and REIT's are no different. Investors should be aware of current trends, and take those into account when comparing various REITs. Certain segments are perennial high performers, while others are location and use-driven.
- Associated Fees: Pay attention to management and transaction fees, not only those charged by investment brokers, but also the operating expenses of the REIT itself.
Investment decisions should always be made following due diligence, and with personal goals and objectives in mind. But for investors who wish to get into the business of real estate investing, even on a limited basis, REITs can be a first step.