You know the basics of REITs (and if you don’t, check this blog out). Here’s a quick review:
Real Estate investment Trusts, or REITs, are companies that own, operate, and finance income generating real estate. REITs offer many of the benefits of owning real estate without the headaches of becoming a landlord. REITs give you a slice of the cash from owning and operating property without having to manage maintenance or tenants.
REITs also open the benefits of owning real estate to your average investor, who may not have had the cash on hand to buy a parking garage in NYC. REITs are known for their relative stability. They have shown the ability to weather market fluctuations due to being tied to ever valuable physical properties. Throughout recession and inflation, property remains valuable.
Investing in a REIT is a sound way to diversify your portfolio and give it durability. You may know the basics of REITs but here are 5 more subtle facts giving you greater insight into REITs.
Dividends REITs regularly pay out are primarily funded by income generated by leasing and operating the property, not the value of the property itself. This dividend structure is important to keep in mind as an investor. A fluctuation in property value may or may not affect dividend value. On the other hand, factors that affect leasing and rental rates will likely have a greater effect on REIT dividends. A solid REIT investment will take into account these factors.
REITs are legally allowed to hold 25% of their assets outside of real estate investments. This other 25% is often made up of investments in mutual funds. As you are considering buying or selling a share in a REIT, make sure to read disclosures on all future investments by the REIT. By doing this you’ll be better informed to make decisions about buying or selling. You’ll also have a better grasp on why the value of a REIT might fluctuate outside of its real estate value.
If you are looking for a creative REIT that will have longevity going forward, check out Data Center REITs. These REITs own and operate properties that house servers and other networking equipment for customers. Seeing as we are living in a continually more data driven world, data center REITs seem to have a great upside. Indeed, the International Data Corporation reports that data usage is on a course to grow at a 24% compound annual rate through 2025. Some specific risks do apply to Data Center REITs, such as interest rate, oversupply, and environmental risks. Yet with the projected growth in data use and REITs characteristic recession resilience, data center REITs are a solid option for any investor.
90% of REITs operating income is passed to shareholders. The state only counts this money as income to the shareholder, not income to the REIT and then the shareholder. Thus, shareholders will be taxed on their dividends at their income tax rate and not at a capital gains tax rate.
Income tax rates tend to be higher than capital gains tax rates unfortunately. If you are an investor in a high tax bracket, you should be aware of this higher tax rate on gains from investing in REITs.
Yet the REIT dividend’s normal income status is not all bad. Most gains to be made from investing in corporations are taxed twice. The gains are typically taxed as corporate income, and then again as shareholder income. REIT dividends are only taxed as income to the shareholders. This arrangement means that the dividends paid by REITs are relatively higher than other corporate investments that suffer from double taxation (once at the corporate level, once at the shareholder level).
According to the National Council of Real Estate Investment Fiduciaries, Residential and diversified real estate investments have beat the average annualized S&P 500 return for the last 25 years. REITs are a significant part of these residential and diversified real estate investments. These numbers point to REITs ability to stabilize and diversify a portfolio.
Well, there you have it, five facts you didn’t know about REITs. A well-chosen REIT or REIT index is a durable asset to add to your portfolio. They offer more consistent pay out than other investments by managing income generating properties with regular mandated dividends. Keep in mind the asset and tax structure of a REIT, which may change which REITs you invest in and how much you invest in them. But like we said before, a solid REIT is a solid investment. For more on REITs and everything else real estate investment, stay tuned to Reiturn insights.