8 Top Pros and Cons REITs as an Investment
What is an REIT?
Those letters stand for real estate investment trust, and this investment asset works in much the same way as a stock.
Like a stock, you can invest in an REIT on a major stock exchange, but the difference is the REIT invests directly into real estate, sometimes through properties and sometimes through mortgages.
This makes for a relatively simple way for investors to add real estate assets to their portfolio, and there are some tax advantages to consider, as well.
Pros and Cons REITs as an Investment
As you begin to think about this particular investment asset, though, you might begin by weighing some of the pros and cons.
A few potential advantages worth noting include:
- REITs do not pay corporate tax at the federal level, and they can declare capital gain dividends to pass through capital gains at the sale of a particular property.
- They are highly liquid, trading on established securities changes.
- In other words, buying and selling REITs is about as easy as buying and selling stocks.
- If you have never invested in real estate, this is simply a good way to diversify your portfolio.
- Most REITs are internally managed by seasoned real estate professionals.
There are also some potential drawbacks to note:
- To qualify as an REIT, there are a number of restrictions and requirements that must be satisfied, so REITs are not as flexible as typical corporations or partnerships.
- A REIT cannot pass losses through to its shareholders.
- Finally, many states impose taxes on REIT dividends.
Should I buy REITs?
A REIT is best suited for investors who are new to real estate or those who are looking for stable cash flows coming from properties that are highly diversified.
REITs are not 1031 exchange compliant. Most are non-traded which means that they do not have to publicly list their shares on an exchange.
This makes them fairly illiquid and owners will generally need to wait for the REIT to liquidate which is normally after a period of 5 years.
If an investor needs liquidity a REIT is not a viable investment as there are generally no ways to liquidate the shares until the underlying real estate is liquidated.
REITs are a fantastic way for people to add large-scale real estate properties to their portfolio, the same way they would put their money in other industries through stock purchases.
When a stock performs well during a given quarter, the shareholder profits through an increased stock price and/or dividends. The same happens with REITs. IF their investments perform well in a given year, their shareholders benefit.
Which REIT sector should i invest
Some REIT sectors fare better than others when interest rates rise.
The obvious choice is to steer away from mortgage REITs as rates rise, but how do you choose which equity REITs to pursue? Here, too, the answer lies with the sector the REIT is in.
Some argue interest rate increases are a good thing for office and residential REITs because of the correlation with economic growth and increased demand. But investors need to make sure returns are on track with the forecast.
As with any other type of investment, investing in REITs comes with risks. Weigh the pros and cons of each before you invest. And, do your homework on the type of REIT company you invest with.
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