REITs: What Are They And How Do They Work?

REITs
Photo by Samson Creative on Unsplash.

Real estate has long been a timeless and effective resource to invest in and build wealth over time. But, in addition to buying physical property, investors have another avenue to pursue: Real Estate Investment Trusts (REITs).

For those seeking investments that are more hands-off, REITs might present a lucrative opportunity to get into the real estate market without actually claiming title to one particular property.

READ: How Does Toronto Real Estate Stack Up To Other Investments?

REITs are especially attractive for those who might not necessarily have the capital needed to buy into larger commercial properties. With REITs, investors can still capitalize on these types of profitable investments without having to secure significant financing to finalize the transaction.

So, what exactly are REITs, how do they work, and are they something that you should consider investing in? We explore all of this below.

What Are REITs?

Real Estate Investment Trusts are investment firms that own and manage real estate properties on behalf of shareholders. The types of properties that investors can tap into are vast and often include commercial units, industrial buildings, office buildings, medical buildings, and shopping malls.

READ: Has The Mall Hit A Wall In Toronto?

Investors pool their money with others and use that accumulated capital to buy a number of properties. These properties are then managed by a professional property management company. Investors don’t have to dedicate any time and effort into managing the properties themselves.

REITs can be compared to mutual funds. But, rather than owning a share in a number of stocks, REITs allow you to own a share in several properties.

How Do Investors Get Paid From REITs?

Investors make their money from REITs by collecting dividends. Basically, any rent that is collected is divided up accordingly based on the number of investors and the share that each investor holds in the portfolio. Investors also build wealth from the appreciation in value of the properties included in their portfolios, and from interest made on real estate debt.

READ: How HELOCs And Record Debt Are Threatening A Financial Crisis

Over the past two decades, REITs have delivered 12 per cent compound annual returns, largely in thanks to the strong performance of retail properties.

What Are the Perks of Investing in REITs?

Anyone who invests in REITs has the distinct advantage of adding expensive commercial properties to their investment portfolios without having to come up with exorbitant amounts of capital. The properties are strategically selected by a team of experts and are well managed by property management specialists.

REIT investors can also exit their investments much easier and faster compared to physical property investments. Investors of single properties would have to go through the entire sale process, which can take weeks and sometimes months until closing.

READ: Toronto Has More Cranes Up Than Any Other North American City

Further, REIT investors can benefit from a more diversified real estate investment portfolio that can include all sorts of different types of properties. They can also split their investment capital into a number of properties.

What Are the Downsides of Investing in REITs?

While there are certainly advantages of investing in REITs, there are some potential disadvantages of this type of investment vehicle. Namely, focusing on one type of investment can expose investors to volatile price increases and decreases.

This is especially true for publicly traded REITs that tend to be closely related to broad stock market volatility. Every so often, collapses can and do occur, which can directly hit REIT investors where it hurts most. Given this, it’s important for investors to do their due diligence before investing in REITs.

READ: 4 Toronto Real Estate Market Predictions For 2019

Investors may also be on the hook to pay high upfront fees for non-publicly traded REITs. Sometimes as much as 15 per cent of the initial capital invested.

Is Investing in REITs Right For You?

REITs definitely come with some attractive perks that investors can take advantage of. The ability to invest in well-managed properties that bring in a decent rental income and appreciate in value over time is a great reason to consider REIT investing.

READ: 2019 Chinese Horoscope Predictions: Is This A Good Year To Invest?

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.

Written By
More from Lisa Rennie

4 Toronto Real Estate Market Predictions For 2019

The year 2018 saw a significant increase in the demand and price...
Read More