Real estate investment trusts, commonly referred to as REITs, are a way to expand your financial portfolio using property ownership. Instead of investing in mutual funds, you can invest in properties and mortgages for buildings in the commercial and residential sectors through a company that owns the properties.
How do REITs work and are they a good investment for your portfolio? The following is a brief overview of this popular investment option and ways you can invest today.
How REITs Work
REITs are available as public or private investments. Public REITs are commonly traded on the stock market, while trust companies sell or finance private REITs.
A trust company must meet certain expectations to qualify as a REIT:
- Real estate must equate to at least 75 percent of the company’s total assets.
- At least 75 percent of the company’s gross income must come from rental properties, mortgages and sales.
- The company must pay its shareholders 90 percent or more of its taxable income in dividends.
- A board of directors or trustees must direct the company as a taxable corporation.
Delving a little deeper, you will find equity REITs and mortgage REITs. Equity REITs allow you to collect income from the rental property each month or through the sale of properties you own. A mortgage REIT allows you to generate income from the mortgages you’ve invested in through your properties.
At least 100 people must invest in one REIT, and the shareholders receive dividends on the taxable income. This is through a third-party company that owns or finances the buildings, so you don’t have to worry about the property’s maintenance or repairs.
REITS have become so popular that you can find real estate investment trust companies in every state, as well as REIT legislation in 35 countries. Since REIT properties include buildings such as hospitals, hotels, apartment complexes, nursing homes, office buildings, shopping centers, industrial buildings and more, the REIT model sustains 1.8 million jobs in the United States each year.
The Stability of REITs
More people are turning to REITs as a wise portfolio investment since it offers several benefits. Not only can you invest in mutual funds, ETFs and other stocks, but REITs also add another layer of diversification. Since REIT companies pay a dividend to their shareholders each year, investors receive stable and passive income.
You can liquidate your shares of stock market-acquired REITs if you find yourself in a pinch or need to unload assets. When it comes to performance, REITs have proven successful over bonds and other investments for long time periods in the last 40 years. These REITs continue to provide investors with a higher current income by professionally managing properties.
REITs have outperformed large-cap and small-cap U.S. stocks as well as bonds and inflation. For example, the annual total return in one year is 0.76 percent for inflation, 5.97 percent for bonds, 4.89 percent for small-cap stocks and 13.69 percent for large-cap stocks. In comparison, listed U.S. REITs show a total return of 27.15 percent in one year.
How You Can Invest in a REIT
If you are considering investing in a REIT to diversify your portfolio, consult a financial advisor for a recommendation. You can invest in a stock exchange REIT, public REIT or private REIT as well as REIT mutual funds or ETFs.
If you choose to invest in a stock exchange REIT, the price will vary according to the market throughout the day. You will want to take into account the estimated growth of each share, the estimated total return and the current and projected dividend yields.
When it comes to stability, equity REITs are more stable in the long-term than mortgage REITs, so be sure to consult a financial planner with your best interests in mind.