REITS - Real Estate Investment Trusts

An equity REIT owns physical property – skyscrapers, malls, hospitals, hotels, shopping centers, nursing homes and the like.

It also manages them – leases space, screens tenants, collects the rent, renovates, paints, patches carpets and fixes the water heater and air conditioning – does whatever it takes to keep the properties operational.

Manages a portfolio of real estate, selling existing properties and buying new ones as it deems advantageous.

Pros: Diversification in Real Estate

Since a REIT is a collection of properties that are often located in diverse geographic regions, by buying several REITs you can cover the entire states thus, you can own a stake in a nationally diversified portfolio of commercial real estate properties with as little as $100.

Since they trade on stock exchanges, shares can be bought and sold within ten seconds any time the market is open, whereas an individual rental property might take months to unload.

Commission to sell = $10 versus a single million dollar rental at $60k.

REITs are leveraged at 50% and you can equalize with rental leverage at 80% by buying REITs on margin or in a leveraged closed-end mutual fund.

The yields on REITs can be somewhat comparable to those from owning an apartment house.

They have a transparency and accountability previously unknown in real estate.

By law, a REIT must distribute 90% of its annual taxable income as dividends to its shareholders.

Depreciation used for tax purposes is returned through dividends – usually about 25 – 30% of the dividend yield from equity REITs constitutes such a return of capital and is ultimately taxed at the lower long-term capital gains rate. This makes for a better after-tax yield on REITs.

Just to play devil‟s advocate, below is a list of advantages in traditional, real property real estate that we would potentially miss out on if we only invested in REITS.

• Leverage
• Tax Advantages Through Depreciation
• Control to Improve Value of Property
• Not correlated to the Stock Market

I wish to make a big, important point here: Although a REIT can give you national or global real estate diversification, and let you avoid tenant and property headaches with an investment that can be leveraged with a tax advantage, you are still correlated to the stock market. It is not a strong correlation to small stocks, but a correlation nonetheless. Thus, with a stock market crash during a period when real estate holds, you would still lose value in a REIT versus if you were in real estate. In my opinion, this defeats the purpose of true asset diversification – investing across asset classes such as paper, real estate and business. So again, although I wish to present a plan that allows you generate passive income through other sources besides real estate, rental property is still a part of the plan.

So, during a market crash, the question becomes, is it still delivering yield? Perhaps you are not as concerned with underlying value if the checks are still arriving in the mail. Still, even if the checks are showing up, you would not have true asset diversification.