A Real Estate Investment Trust (REIT) is a legal entity that invests in income-producing properties and distributes the proceeds among its unit holders. Some REITs invest in a specific type of asset, such as shopping malls or apartment buildings, while others prefer to diversify.
REIT managers raise capital from accredited investors and pool it to purchase (through a nominee corporation). They manage (through an operating company) the properties in their portfolio. Investors receive units in the trust and periodic (usually monthly) cash distributions generated by the properties, such as rent payments. In addition to this regular income, unit holders also benefit from capital gains when real estate appreciates.
It must be noted that Canadian and US REITs have a major difference since American REITs are corporations that issue stock, instead of trust units.
Why you should consider investing in a REIT
REITs have been highly favored by investors since they offer multiple advantages:
- They allow investing in one of the best-established asset classes without the need to purchase and manage a property. A REIT investor doesn’t become an active landlord.
- The amount required for an individual to invest in commercial real estate is much less than the price of the assets, making it more affordable.
- REITs usually hold a portfolio of properties, eliminating the specific risk of owning a single one.
- They offer a steady and usually predictable stream on income.
- They provide an attractive income in times of low interest rates, and they also provide a hedge alternative against inflation, since real estate tends to hold or increase its value.
- A REIT is classified as a “flow-through” investment because it pays no income taxes. Instead, taxes are passed to the individual investor. The advantage is the avoidance of double taxation (at the trust and then at the personal level). Investors are strongly encouraged, however, to seek professional advice since REIT distributions can be taxed at their full marginal rate.
- These investments can be held in registered plans such as RRSPs, TFSAs, and RESPs, providing individual tax advantages.
Private vs public REIT investing
REITs are ruled by their own Declaration of Trust, and they fall under general contract and trust legislation. They come in two main types.
Some REITs are private and have limited appeal. They are suited for investors looking for “hidden” or less-advertised opportunities. While they can offer very attractive returns, they have the major disadvantage of low liquidity since there is no secondary market where they can be traded. This private placement option is usually open only to accredited investors via the exempt (non-prospectus) market.
The best-known real estate investment trusts are publicly traded and they are brought to the capital markets under a prospectus and via a regular initial public offering (IPO). These are available to the wider investing public, that can make purchases in two main ways.
REITs can offer attractive and steady returns
It is possible to acquire REITs stock in the major exchanges. For example, REITs trade in the TSX under the suffix “.UN”. A couple of examples are the Canadian Apartment Properties (CAR.UN) which focuses on rental apartments, and RioCan (REI.UN) that invests primarily in retail properties.
For investors looking for a more diversified strategy, there are dozens of real estate investment trust ETFs (and mutual funds) available. The largest one is the iShares S&P/TSX Capped REIT Index (XRE.TO) available via BlackRock, which holds 10 large apartment building, retail, and industrial REITS, following an aggressive income strategy. A more diversified alternative is the BMO Equal Weight REITs Index which holds 23 REITs in retail, residential, industrial, healthcare, and other industries.
REITs are a well-established category that can offer attractive and steady returns. Any investor looking for a solid alternative for their portfolio should consider adding REITs, keeping in mind their overall investing strategy, and with the help of a qualified financial advisor.
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Legal Disclaimer: the contents of this article are for information purposes only and are not intended to provide any form of financial or investment advice.