The Risks of Real Estate Investment Trusts REITs

disadvantages of reits

One of the most attractive features of REITs, as you can see from the bullet point list above, is the avoidance of double taxation. Carefully consider your individual situation and consult with an investment professional to decide if investing in REITs makes sense for you, and how much you should allocate to them. And with much of the returns from REITs coming in the form of dividends, that can leave investors with a higher tax bill than more appreciation-oriented investments. These types of REITs tend to be large and diversified, owning a wide range of properties or loans — or both, in the case of hybrid REITs. When market conditions change, share prices respond immediately because they trade like stocks.

You can also buy shares in REIT ETFs, including one of the most popular, the Vanguard Real Estate Index Fund (VNQ). But REIT investors can only sell their shares if they don’t like the performance. In the case of some private REITs, they can’t even do that, at least for the first few years.

Benefits and risks

With a REIT, you have access to real estate investment opportunities without the need for a substantial amount to actually purchase property or buy into a real estate investment club. Shares of publicly traded REITs can be bought and sold on major exchanges. Although private REITs are still regulated by the SEC, they fall under different rules. Most operate as crowdfunded real estate investments, which are regulated differently than publicly traded investments listed on stock exchanges. Share price can be heavily influenced by market conditions versus the actual value of the underlying properties.

  • Zacks Equity Research (June 15, 2016), Why Investments in REIT Stocks Can Be Risky,
  • While investing in REIT offers you more diversification, its income base is not as diversified as that of a large public company.
  • This feature provides investors with a high degree of liquidity that isn’t normally available in other real estate investments like a direct property purchase scenario.
  • The rationale behind diversification and asset allocation is that when one asset goes down in value, another may go up.
  • To avoid this, invest only in registered REITs, which can be identified using the SEC’s EDGAR tool.

You can sort and track the companies by type – private, non-traded and publicly traded – as well as by sub-industry. These benefits are some of the most significant to investing in REITs, relative to both stocks and direct investment in rental property. Preferred stock is an unusual kind of stock, and it functions much more like a bond than a stock.

Tips for Investing in REITs

Even those who manage retail or office properties usually have the supplies, equipment, and HR-related issues for maintenance crews who handle the cleaning and landscaping. In addition to maintenance, issues with renovations and construction also become the responsibility of property owners or the managers they hire. Another benefit to a REIT is that it can offer some diversification and balancing of your portfolio.

Publicly traded REITs are a safer play than their non-exchange counterparts, but there are still risks. Another advantage of direct real estate over REITs is that you have more control over decision-making. You can, for example, limit your search to listings that meet your criteria for area, property type, and finance.

The reason for this involves the tax benefit REITs get at the entity level. For rent and most other typical real estate income, ordinary tax rates apply. When a REIT sells a property to get a long-term capital gain, though, shareholders get favorable treatment on the corresponding portion of their income allocable to the gain. As long as REITs follow the rules laid out by the IRS, they are able to claim special tax treatment, notably they are not taxed at the entity level.

Real estate investment trusts have been a great way to make money over time, but they come with a few drawbacks.

The average apartment lease typically falls between 12 and 24 months, exposing these REITs to greater fluctuations in rental revenue. In good years, apartments can raise prices each time a lease is renewed every year or two. However, in down cycles prices locked in at the top will reset quickly at the bottom.

The drawback is that REIT earnings don’t always qualify as “qualified dividends,” which are taxed at a lower rate than ordinary income. A REITs pre-established term can also limit the upside of its investment. Because REITs typically have a fixed maturity of 5-10 years, at some point, the properties must be sold regardless of market conditions. That means if the REIT matures at time when property prices are down, a drop in your investment will be unavoidable.

Types of REITs

Once your account is open and you can access it online, use the education and research tools available to begin reviewing possible REIT investments. Your brokerage account should also have a screening tool that can assist you in fine-tuning your research and selection. If you decide to open a brokerage account (and don’t already have one), the process is straightforward. You’ll provide basic contact details and certain personal details (e.g., Social Security number and a valid ID). You’ll be asked for some additional information about your income, occupation, and investing experience.

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At present, there are many platforms out there you can use for REIT investing, such as DiversyFund. However, before you decide to invest through it, make sure to check out some DiversyFund reviews so you’ll know exactly what you’ll be signing up for. The global platform for sustainable and energy-efficient real estate technologies and solutions. To fully appreciate the REIT Advantages and Disadvantages, it is essential to understand the term’s meaning. At that point, a new tenant needs to be found, which is never easy. Therefore, it’s crucial that you invest in REITs with the strongest anchor tenants possible.

REIT pros and cons

For example, in the aftermath of COVID-19, people continue to work from home at a higher rate than they did previously. As a result, many companies have seen fewer employees come into the office, and this has reduced the need for some companies to lease or own as much space in office buildings. We will describe what they are, the advantages and disadvantages of investing in them, and how they compare with the types of private equity syndications that we offer. By the end, readers will have a thorough understanding of REITs and will be able to determine if investing in one is a good fit for their own investment objectives.

disadvantages of reits

When you buy a property directly, it takes months and many thousands of dollars to sell. Anyone looking to build passive income and reach financial independence can look to REITs to help supplement their other passive income sources. And let’s be honest, there’s just something satisfying about looking at a building you own, versus staring at shares of stock on a computer screen.

In a low-interest-rate environment with the prospect of rising rates, most mortgage REITs trade at a discount to net asset value per share. These are REITs that own and operate multi-family rental apartment buildings as well as manufactured housing. When looking to invest in this type of REIT, one should consider several factors before jumping in. Once you’ve made your industry assessment, your focus should turn to the REITs themselves. Like any investment, it’s important that they have good profits, strong balance sheets, and as little debt as possible (especially the short term kind).

disadvantages of reits

A REIT (pronounced REET), or real estate investment trust, is an entity that holds a portfolio of commercial real estate or real estate loans. Congress created REITs in 1960 to provide all investors, especially retail investors, with access to income-producing commercial real estate. REITs combine the best features of real estate and stock investment. A REIT is a corporation that owns, operates, or finances income-producing real estate or real estate-related assets. Many REITs specialize in a specific type of property but others have more diverse portfolios.

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