What Is A Real Estate Investment Trust (REIT) And How Does It Work From An Investment Standpoint

What Is A Real Estate Investment Trust (REIT) And How Does It Work From An Investment Standpoint?

What Is A Real Estate Investment Trust (REIT) And How Does It Work From An Investment Standpoint?

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If owning real estate is a dream of yours, but you don’t have the capital to purchase an entire property now, then investing in a REIT could be the perfect solution for you. 

What are Real Estate Investment Trusts (REITs)?

A REIT, or real estate investment trust, is a company that owns income properties and allows consumers to purchase partial ownership of these properties. They are crowdfunded investment properties. The company manages, operates, and owns the properties; then pays its investors dividends upon their investments based upon the income generated from the rental income or sale of the properties. This allows you to become a real estate investor without having to be a landlord.

What are the different type of REITs?

There are five basic types of REITs. They are:

  1. Private REITs – these cannot be purchased on a stock exchange, they typically are only available to institutional investors. These REITs are not subject to SEC registration.
  2. mREITs – the m stands for mortgage in this type of REIT. The dividends from this type of investment trust come from the interest earned from owning mortgage-backed securities and mortgages, rather than on income generated from owning properties as assets.
  3. Public non-listed REITs – these are also unavailable on public stock exchanges, they also tend to be more restricted in withdrawing investment funds. Unlike private REITs, these are registered with the SEC.
  4. Equity REITs – the majority of the dividends for these REITs come from income-producing real estate like apartment buildings and commercial real estate. These are publicly traded. These are the most common type of REITs. It is also the most accessible type for most investors.
  5. Hybrid REITs – basically a combination of the mREIT and any other REIT that owns properties as assets. 

For more information in regards to REITs, click on the link to the SEC guide.

How to invest in REITs?

Believe it or not, but there are well over 200 REITs to choose from. Many are publicly traded REITs. These are the easiest to invest in because they are available through most stockbrokers and stock exchange websites. There are even companies that allow the purchase of REIT investments on their websites. (However, the SEC strongly recommends choosing REITs that are registered in order to avoid fraud and theft.) 

Equity REITs do not require a qualified financial advisor or becoming an accredited investor, which means anyone can purchase them. The initial investment is usually smaller for these as well. 

There are also REIT mutual funds and EFTs available, these have the added benefit of providing more liquidity than traditional REIT investments. These mutual funds and EFTs may include investments in real estate stocks and indices as well.

Private REITs are more difficult to invest in. They require an accredited financial advisor to make the investment and generally need a more significant initial investment. Often there are net worth and income minimums that must be proven to become an accredited investor, this must happen before investment can occur. This can be cost-prohibitive for many beginning investors.

How do can you make money from REITs?

REITs earn money the same way a stock does. Your investment is used to purchase a portion of the property or mortgage; as the property increases in value or the mortgage begins to earn interest, the value of the stock you purchased becomes worth more. This additional value is then distributed through dividends back to the shareholders. According to Nareit, over the past 40 years, the publicly-traded REITs typically earned 11.28% interest. mREITs earned only 5.02% over the same period.

Of course, as with any investment, there is volatility and risk involved. When considering investing in a REIT, it is better to think long term, rather than short term. Over time, real estate is a very safe investment – but as the crash of 2008 showed us, it can also have major market dips.

How to earn dividend passive income from REITs?

Yes. REITs function just like stocks. They are an excellent option for earning passive income because a one-time investment can be allowed to sit and grow with minimal monitoring or effort from the investor. 90% of a REIT’s taxable income must be paid out to shareholders, this means that the shareholders get the lion’s share of the income generated. 

Real estate in general is considered to be one of the safest long term investments. Because REITs allow for smaller contributions to begin, they are an excellent way to begin saving for retirement and should be strongly considered in asset allocation and portfolio planning. 

How are REITS treated from an overall taxation standpoint?

One of the only downsides to REIT investing is that the income from REITs is taxed normally, it is not considered a capital gain. Typically, with income generated from assets – like stocks and investments, there is a special designation that allows it to be taxed at a lower rate than your earned income. Unfortunately, the income from REITs is taxed as if it were earned income, not the passive income tax – which is also known as capital gains tax. This means it has a higher tax rate. If you are in a higher tax bracket, based upon your income, this can be a significant drawback for you. However, because it is not taxed as a capital gain, there is some portion of the tax that can be written off – about 20%. 

In addition to the income received from REITs, short term and long term capital gains apply at the time of the sales of REIT shares.

For all up to date information in regards to REITs and taxation please reference the irs.gov website or consult with a tax professional.

Where can I start investing in REITs?

If you looking for a platform to start investing in REITs today then look no further than Webull. Webull is our #1 rated investment and brokerage platform. There endless REIT options to choose from including individual REITs and funds. Check out the link below to Webull.

#1 Rated Investment Brokerage Platform

#1 Rated Investment Brokerage Platform

Today it is easier and cheaper than ever to purchase stocks. Some of them offer completely $0 cost trades and you can do this straight from your mobile phone. My personal recommendation is Webull. It offers all the above plus some of the most amazing stock and fund information at your fingertips. The platform is free so download it today and give it try.

Webull App Phone

If you looking to add REITs to an IRA in a retirement account to earn passive income then our #1 recommended platform is M1 Finance. M1 Finance offers amazing custom portfolio and Robo Advisor investment options to help amplify your retirement investments. They offer a great choice of REITs and REIT ETFs to choose from. Check out the link below to M1 Finance.

#1 Rated Robo Advisor & Dynamic Portfolio Rebalancing

#1 Rated Robo Advisor & Dynamic Portfolio Rebalancing

The M1 Finance’s brokerage, retirement account and overall technology are simply amazing. They offer dynamic re-balancing, full customization and even some pre-built portfolio options called expert pies. M1 Finance is a strong recommendation for your automated investment and retirement needs. Try them today with only as little as $100 to start investing.

M1 Finance custom pies

Summary

REITs are an excellent way to begin investing in real estate. These REITs have all the benefits of traditional real estate ownership, without the effort and hassle of being a landlord, and the upfront costs of real estate ownership. They have a proven track record of growth with an average of over 5% per year over the last 40 years, higher liquidity than traditional real estate investments, and are a relatively safe investment over time. REITs are a great way to diversify your investment portfolio, earn passive income, and become a real estate investor. 

If you’re interested in learning more about real estate investing, click the following link to my dedicated page on real estate.

What are your thoughts on REITs? Are you considering investing in them? Are you already investing in them? Please share your thoughts in the comments section below.

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Frank Makrides

Frank Makrides

Is a former financial technology industry executive, licensed realtor, real estate investor, an award-winning speaker, has been published, holds multiple patents and is passionate about all things personal finance and entrepreneurship. He is also a proud husband and father of 2 amazing children.

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