Investing in real estate is not what it used to be! The days of needing to invest tens of thousands of dollars upfront are long behind us thanks to the advent of real estate investment trusts or REITs.
REITs are a unique type of security that allows you to invest in everything from commercial and residential property to healthcare facilities and even timberlands! And the best part is that you can get started with a few hundred dollars.
However, even if you decide REITs are the perfect way to get started with real estate investing, there are still many decisions you will have to make.
Here, we will go over what REITs are, the advantages of real estate REITs, and the five different kinds of REITs.
What are REITs?
REIT stands for a real estate investment trust and is an excellent way for smaller investors to get started in real estate investing without needing a lot of upfront capital. REITs were created in 1960 to get small investors involved in the then-booming real estate market. And they have been growing in popularity ever since. REITs are different than traditional stock or ETF investments as they tend to provide more stability with lower barriers to entry.
How do REITs work?
A REIT is a company that owns or invests in income-producing real estate. These properties can be from office buildings and shopping malls to warehouses and apartment complexes.
When you invest in a REIT, you become a shareholder in their REIT and receive a share of the profits (or losses). REITs must pay out 90% of their taxable income to shareholders in the form of dividends, which is why they are sometimes called “pass-through” entities.
These types of securities were created in the early 1960s as a way for small investors to get into the real estate market. REITs are like mutual funds, but instead of owning shares in individual companies, you own shares in a trust that owns a portfolio of real estate assets.
Advantages of REITs
There are many reasons why you should consider investing in REITs. Here are just a few:
- Diversification. REITs allow you to diversify your investment portfolio by adding exposure to the real estate market.
- Liquidity. REITs are highly liquid, meaning you can sell your shares at any time if you need to access your money.
- Passive income. REITs generate passive income, which is money you receive without having to do anything. Sweet.
- Tax benefits. REITs offer some tax benefits that other types of investments don’t. For example, REIT dividends are typically taxed lower than regular dividends.
Cons of REITs
While REITs have advantages over traditional investing methods, there are some cons to investing in real estate REITs.
- Lack of control. When you invest in a REIT, you give up control of your investment.
- Asset concentration. REITs may be susceptible to asset concentration risk, which is the risk that a large portion of their assets will be concentrated in one or two properties.
- Volatility. REIT prices can be volatile and can go up and down quickly. This makes them risky investments for some.
Next, we will address five different types of REITs and things to consider before investing in each.
1. Retail REITs
Retail REITs are REITs that invest in shopping malls and other retail properties. These REITs are a great way to gain exposure to the brick-and-mortar retail sector, under pressure from online retailers like Amazon.
Many retail REITs have been hit hard by the rise of online shopping, but some are still doing well. And as online sales continue to grow, the demand for quality retail space will only increase.
If you’re interested in investing in a Retail REIT, make sure you do your research first. Not all Retail REITs are created equal, and some are riskier than others.
When looking to get started in retail REITs, it is essential to know that REITs generate income from collecting rent from tenants (individuals and businesses). With e-commerce becoming a more significant global phenomenon daily, it is important to understand that this may have a negative impact on REITs who have invested in physical storefronts.
It is important to also remember that e-commerce only caters to a specific type of customer, and there will always be those who prefer the traditional shopping experience—especially when it comes to high-value or luxury items.
2. Commercial Property REITs
The second type of real estate REIT is the Commercial Property REIT. These REITs invest in office buildings, industrial warehouses, and other commercial properties.
Commercial Properties are a great way to gain exposure to the growing economy. As businesses continue to expand, they will need more office space and warehouse space, which Commercial REITs provide.
When deciding whether or not a commercial property REIT is the best option for you, there are many things you should consider. Here are some questions to ask yourself before selecting a commercial property REIT:
- What is the current state of the economy?
- How high is the unemployment rate?
- What does the commercial vacancy rate look like in your selected area?
- What are the projections for commercial growth?
- Does this REIT have additional financing for acquisitions?
If looking to invest in commercial REITs, ensure the city or location has positive economic plans for growth, stability, and sustainability. With a higher risk appetite, REITs should look towards other geographies with more growth potential, even though this may come with more volatility.
3. Residential Property REITs
The third type of real estate REIT is the residential REIT. Residential REITs are REITs that invest in apartments and other types of residential properties.
Residential REITs are a great way to gain exposure to the housing market. As more and more people move to cities, the demand for rental housing will continue to increase. Residential REITs are also a great way to gain exposure to the student housing market.
When deciding whether or not a residential REIT is the best option for you, there are many things you should consider. Here are some questions to ask yourself before selecting a residential REIT:
- What is the current state of the housing market?
- How high is the unemployment rate?
- What does the residential rental vacancy rate look like in your selected area?
- What are the projections for rental growth?
- Are the properties in an area that will always demand renters? For example, near a large university?
If looking to invest in Residential REITS, ensure an experienced and well-diversified management team who can navigate choppy waters. It’s important to remember that these types of REITs are more susceptible to the housing market’s overall health. One downside to real estate REITs for residential sectors is you are often limited in selecting the individual properties. However, alternative investment options allow you to pick specific projects that act similar to REITs.
4. Healthcare REITs
The fourth type of real estate REIT is the Healthcare REIT. These REITS invest in healthcare facilities such as hospitals, nursing homes, and assisted living facilities.
Healthcare spending is expected to grow significantly in the coming years as the population ages, and more people require healthcare services. This makes Healthcare REITs a solid investment for the long term.
5. Mortgage REITs
The fifth type of real estate REIT is the Mortgage REIT, where your REIT invests in mortgages.
Mortgage REITs are a great way to gain exposure to the mortgage market. As interest rates rise, the value of mortgage-backed securities will also increase, making Mortgage REITs a good investment for the long term.
When deciding whether or not a Mortgage REIT is the best option for you, there are many things you should consider. Here are some questions to ask yourself before selecting one:
- What is the current state of the mortgage market?
- How high is the interest rate?
- What does the mortgage-backed security yield look like in your selected area?
- What are the projections for interest rates?
- Does this REIT have additional financing for acquisitions?
Summary
There are many different real estate REITs, and each one offers its unique benefits. While real estate REITs have many advantages, it is imperative that you understand the market conditions, projects and risks before investing. By doing your due diligence, you can ensure that you are making the best investment for yourself.
REITs offer a great way to invest in real estate and benefit from its growth potential. By understanding the different types of REITs available, you can make an informed decision about which one is right for you.
While REITs do have their advantages in comparison to traditional real estate investing, there are a growing number of alternative ways (we happen to know all about real estate fintechs) for small investors to get involved in real estate investing.
Remember to always do your research before investing! Yes, we realize we’re preaching to the choir, but still.
