Real estate has long been thought of as a relatively safe and lucrative investment, but it's not always easy to get some skin in the game. For starters, saving for a down payment is often easier said than done. And you'll need significant capital for renovations for flips or to get your unit ready as a rental. Fortunately for many people, though, there's a way to invest in real estate without the leg work of saving up for a down payment or managing a property: real estate investment trusts.
A real estate investment trust (REIT for short) is a company that invests in different kinds of income-producing real estate — like shopping centers, condominiums, housing developments, hospitals, parking garages and more. You can buy shares of the REIT in order to get exposure to its real estate investments and have that real estate be part of your investment portfolio without actually managing property yourself. In fact, according to research from Nareit, a resource platform for real estate companies, 145 million Americans are invested in REIT stocks, as of Oct. 2020.
There's a lot to know when it comes to the ins and outs of investing in REITs, so Select asked Sachin Jhangiani, the Co-Founder and Chief Marketing Officer at Elevate Money, to help break down some key points when it comes to REITs. Here's what you should know.
1. There are three general categories of REITs: Equity REITs, mortgage REITs and hybrid REITs
Equity REITs invest in properties and earn income from rent, property sales and dividends. Mortgage REITs, like the name suggests, invest in mortgages and mortgage-backed securities (a type of asset that is secured by a mortgage or a collection of mortgages). These types of trusts can earn income through the interest collected on mortgages but because of this, interest rate changes can greatly affect their yield. Lastly, hybrid REITs invest in a combination of mortgages and real estate.
2. There are two ways to invest: through publicly traded REITs and non-traded REITs
In addition to the three general categories of REITs, there are also two methods of investing in them. The first is by buying publicly traded REITs. These REITs are publicly traded on a stock exchange and you invest in them in the same way that you would invest in any stock or ETF — by buying shares using a brokerage account, like Robinhood or TD Ameritrade.
Non-traded REITs, on the other hand, are not traded on a stock exchange. In order to invest in them, you'd need to work with a financial advisor or broker to arrange your investment. Non-traded REITs are also highly illiquid compared to their publicly traded counterpart. Once you invest in one, you'll have to wait until the REIT lists its shares on a public exchange or until it liquidates its assets in order to access your money, according to the Securities and Exchange Commission (though, early withdrawal offers can occur but it'll depend on the terms of the REIT you're invested in).
So if you're investing in a non-traded REIT, you have to really plan to not touch the money for a very long time since you can't just click a button and sell your shares.
3. You earn money on your investment through dividends
REITs invest in assets that generate income, like commercial properties. That income is then distributed to investors on a monthly basis as dividends. By law, REITs are required to pass down 90% of its income to shareholders in the form of dividends.
4. REITs also come with fees.
When it comes to other types of investments like index funds and ETF's, you'll usually pay a management fee — the same holds true for investing in REITs.
"Yes, there are management fees associated with all REITs. Think of it as a mutual fund; they all have management fees that vary based on the fund," Jhangiani explained.
If you are unsure how much you'll pay in fees for a particular REIT, you can always double check with the broker or advisor you're working with.
5. Make sure you identify whether you're investing in a publicly traded REIT or a non-traded REIT
If you're considering investing in a REIT you, of course, want to make sure you're putting money into the right one — you don't want to accidentally invest in a non-traded REIT when you really meant to invest in a publicly traded one, and vice versa.
According to Jhangiani, publicly traded REITs will have ticker symbols (similar to the ticker symbols that stocks have) however, non-traded REITs do not have ticker symbols. This is one simple way of identifying them. You can also search through a directory of REITs using Nareit. You can filter through the list to look at only publicly traded REITs, only non-traded REITS, or both, which can be really handy if you want to do your own research before working with a broker or advisor to invest in non-traded REITs or before investing in a publicly traded REIT on your own.
6. REITs are not without risk: Factors like location and lease terms can influence the risk level of a particular non-traded REIT.
Much like with any type of investment, REITs carry some amount of risk. Publicly traded REITs, for example, can experience dips since their share price fluctuates with the stock market.
"Covid happened and the market went down 30-40%," Jhangiani said. "When the market goes down like this, the price of publicly traded REITs will go with it even though the value of the real estate in its portfolio isn't lower. So if you're forced to sell, then you're forced to sell at the bottom."
But with non-traded REITs, other factors — like a tenant's lease for their commercial property or even whether you're investing in a finished property or one that's still in development — can influence risk.
"Generally, the shorter the lease term, the higher the risk because you don't know how long it might take to find a new tenant once one lease is up," Jhangiani said. "Another big thing that influences risk is if you're betting on a property that's still under construction. The risk on this is higher because you won't have income coming in on that property for the first few years since it's still under construction."
7. REITs should generally be considered long-term investments
This is especially true if you're planning to invest in non-traded REITs since you won't be able to easily access your money until the REIT lists its shares on a public exchange or liquidates its assets. In many cases, this can take around 10 years to occur.
And with publicly traded REITs that fluctuate with the stock market, Jhangiani recommends holding onto them for at least three years. But like with any stock investment, the longer you plan to hold onto them, the more time you'll have to recover from any huge dips in the market.
"Both public and non-public REIT investments should be considered long-term, and that could mean different things to different folks, but in general, investors who typically invest in REITs look to hold them for a minimum of three years, and some of them could hold them for 10+ years," Jhangiani explained.
8. You should do some digging on a REIT's performance to figure out which ones are a potentially strong investment
When picking a reliable REIT, you should look at the track record of the management team. This can provide clues about their past successes. It would also be wise to ask how the team is compensated. A team that earns performance-based compensation, for example, will of course put a lot of energy into making sure their investments (and by association, your investments) are high-performing.
"Investors should consider the fees, strategy, the manager's underwriting process, leverage on the properties, the dividend yield and all other risks related to that particular REIT," Jhangiani said.
You can search online for these specifics on the REIT's website or you can speak to a broker or financial advisor about gathering this information for you.
9. You can use some retirement accounts to invest in REITs
According to Jhangiani, alternative investment options have been becoming more accessible through retirement accounts, including when it comes to REITs. You can invest in publicly-traded REITs through retirement accounts, including traditional and Roth IRA's.
When it comes to 401(k) plans, though, it'll depend on what is available through your employer's plan. Many employers only allow you to invest in a target date fund through your 401(k). But you can always contact your company's benefits team to get some clarification on whether or not you have the option to invest in REITs through your 401(k) plan.
10. Gains on REIT investments are taxed
The dividends you earn on REIT investments are taxable. According to Nareit, dividends earned from REITs are taxed at the normal income tax rate, up to 37%. However, up to 20% of your dividend income for the year can actually be deducted when filing your taxes.
11. REITs are fairly accessible to those who want to invest in them
If you want to invest in publicly traded REITs, you can do so through any brokerage account, like Fidelity or TD Ameritrade. For non-traded REITs, though, you'll usually need to work with an individual broker or a financial advisor to get invested, but apps like Fundrise, YieldStreet and Elevate Money also allow you to invest in non-traded REIT's on your own through their platforms.
They each have their own strategy — Elevate Money, for example, invests in car washes, gas stations, dollar and convenience stores and quick service restaurants while YieldStreet typically has portfolios made up of commercial, residential and multi-purpose properties. Also, some robo-advisor platforms like SoFi Invest work REITs into their automated investing strategy for users.
12. Consider your goals when deciding which REIT to invest in
Much like with any next financial step you decide to take, you should always consider your financial goals and how your next move will help you get closer to that goal. Investors who are easily deterred by volatility may not feel comfortable putting money into a publicly traded REIT that experiences highs and lows alongside the stock market. At the same time, an investor who wants easy access to their money at any time might want to avoid investing in something that locks up their money for extended periods of time.
"Publicly traded REITs provide more liquidity, but non-traded REITs can potentially give you higher yields and may even be a potential inflation hedge," Jhangiani explained. "So it depends on the investor's goals and needs — do they want liquidity or lack of volatility? That is usually the determining factor."
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Editorial Note: Opinions, analyses, reviews or recommendations expressed in this article are those of the Select editorial staff’s alone, and have not been reviewed, approved or otherwise endorsed by any third party.
