If you want to buy real estate for your portfolio without worrying about buying, selling and managing individual properties, you should review real estate investment trusts, or REITS. The REIT concept was created by federal legislation in 1960 in order to give average investors access to ownership of large-scale properties such as shopping centers, office buildings and self-storage facilities. REITs now own over 40,000 properties in the United States. You can invest in real estate investment trusts by purchasing as little as one share in the company. Before investing in REIT properties, you should evaluate costs, risks and earnings.
Public or Private
Publicly traded real estate investment trusts offer you the most liquidity and transparency -- these REITs are registered with the Securities and Exchange Commission and trade on a stock exchange. However, some REITs are registered with the SEC but do not trade publicly -- these are called non-traded REITs. A third variation involves a REIT that is not SEC-registered and does not trade on the stock market exchanges. The most prudent choice for investors is typically a publicly traded REIT.
Properties or Mortgages
REITs can own either property or real estate loans. About 10 percent of real estate investment trusts specialize in owning mortgages while the other 90 percent of REITs focuses on property ownership. If you want to participate in rental income and capital appreciation, make sure that you invest in a REIT that buys properties rather than loans. With a real estate investment trust that invests in mortgages, the primary risk involves potential borrower defaults -- especially for leveraged purchases involving small amounts of equity.
Mutual Funds and ETFs
Buying only one REIT will result in an under-diversified portfolio for many investors. For more diversification, you can choose from both REIT mutual funds and exchange-traded funds. With either option, the fund typically owns many different REITs -- with at least 40 percent of properties outside of the U.S. if the fund is categorized as a global fund. With both forms of ownership, you should review the prospectus for a detailed overview of investment strategies.
Taxes and Fees
Real estate investment trusts are required to pass most profits to shareholders in the form of dividends. This requirement results in attractive dividend rates for investors. These dividends are typically treated as ordinary income for tax purposes. Management fees and commissions can differ markedly according to what kind of REIT you are buying. Publicly traded ETFs and closed-end mutual funds will generally have the lowest commissions; non-traded REITs have the highest up-front fees -- 10 percent of the investment is not unusual.
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