What are REITs?
Real estate investment trusts ("REITs") allow individuals to invest in large-scale, income-producing real estate. A REIT is a company that owns and typically operates income-producing real estate or related assets.
REIT Portfolio Assets
REIT portfolios may include office buildings, shopping malls, apartments, hotels, resorts, self-storage facilities, warehouses, and mortgages or loans. Unlike other real estate companies, a REIT does not develop real estate properties to resell them. Instead, a REIT buys and develops properties primarily to operate them as part of its own investment portfolio.
Why Invest in REITs?
REITs provide a way for individual investors to earn a share of the income produced through commercial real estate ownership – without actually having to go out and buy commercial real estate.
Portfolio Diversification
REITs offer exposure to real estate markets, which typically have low correlation with other asset classes, helping to diversify investment portfolios.
Income Generation
REITs are required to distribute at least 90% of their taxable income to shareholders annually in the form of dividends.
Professional Management
Benefit from professional real estate management and acquisition expertise without direct property ownership responsibilities.
Liquidity
Publicly traded REITs can be bought and sold on major exchanges, providing greater liquidity than direct real estate investments.
Types of REITs
Many REITs are registered with the SEC and are publicly traded on a stock exchange. These are known as publicly traded REITs. Others may be registered with the SEC but are not publicly traded. These are known as non-traded REITs (also known as non-exchange traded REITs).
This is one of the most important distinctions among the various kinds of REITs. Before investing in a REIT, you should understand whether or not it is publicly traded, and how this could affect the benefits and risks to you.
- Publicly Traded REITs: Listed on national securities exchanges where individual investors can buy and sell shares easily.
- Public Non-Traded REITs: Registered with the SEC but not traded on national securities exchanges.
- Private REITs: Not registered with the SEC and not traded on national securities exchanges.
Benefits and Risks of REITs
REITs offer a way to include real estate in one's investment portfolio. Additionally, some REITs may offer higher dividend yields than some other investments.
Special Risks of Non-Traded REITs
There are some risks, especially with non-exchange traded REITs. Because they do not trade on a stock exchange, non-traded REITs involve special risks:
Lack of Liquidity
Non-traded REITs are illiquid investments. They generally cannot be sold readily on the open market. If you need to sell an asset to raise money quickly, you may not be able to do so with shares of a non-traded REIT.
Share Value Transparency
While the market price of a publicly traded REIT is readily accessible, it can be difficult to determine the value of a share of a non-traded REIT. Non-traded REITs typically do not provide an estimate of their value per share until 18 months after their offering closes. This may be years after you have made your investment. As a result, for a significant time period you may be unable to assess the value of your non-traded REIT investment and its volatility.
Distributions May Be Paid from Offering Proceeds and Borrowings
Investors may be attracted to non-traded REITs by their relatively high dividend yields compared to those of publicly traded REITs. Unlike publicly traded REITs, however, non-traded REITs frequently pay distributions in excess of their funds from operations. To do so, they may use offering proceeds and borrowings. This practice, which is typically not used by publicly traded REITs, reduces the value of the shares and the cash available to the company to purchase additional assets.
Conflicts of Interest
Non-traded REITs typically have an external manager instead of their own employees. This can lead to potential conflicts of interests with shareholders. For example, the REIT may pay the external manager significant fees based on the amount of property acquisitions and assets under management. These fee incentives may not necessarily align with the interests of shareholders.