If you’ve paid attention to the real estate market, you know that REITs, or real estate investment trusts, have been a fairly lucrative venture over the last few years. This type of investment describes large-scale funds in real estate that produce some kind of income or capital appreciation.
Essentially, these investments enable investors to put stock in real estate without the risks, hassles, and expenses of being a landlord. The payouts for this kind of investing are generally associated with high dividends and low taxes, which is why they catch the attention of so many investors.
In 2008 when the housing market crashed, REITs were considered highly volatile. However, the housing market is better than it’s been in years, and REIT’s are finally performing well.
“Exchange traded fund volumes appear to be returning to normal and volatility levels appear to be decreasing even as REIT values increase,” says Fariba Ronnasi of Elite Wealth Management. “While the past five years has been difficult, the past six months are encouraging. The reasons investors have been using to keep their distance no longer applies.”
This advice echoes that of many other financial advisors regarding REITs today. They sound fairly simple on the surface, but there are several important things to consider before investing.
1. It’s not like house shopping.
It’s true that REITs are basically real estate investments, but that doesn’t mean they should be treated the same as house hunting. They’re more like a specialized mutual fund for real estate, and there are currently 40,000 of them in the United States today.
It’s not looking for a place to live. It’s more of looking for something that will successfully turn a profit. Those looking to purchase a property should do so with resale value in mind. Whether you’re purchasing a condominium or a shopping center plot, it should be well managed and designed to make money.
2. It’s great for long-term performance, but not for short-term.
One of the most important facts to remember about REITs is that they’re much better investments in the long-term than the short term. Over the span of, say 30 years, REITs can return of 14 to 16 percent, but the short term performance can actually go in the opposite direction.
Though some people get lucky with their short term REITs, most end up losing value within just a few years. For that reason, the best move for REITs is usually to wait several years before giving up on the investment.
3. Volatility is a risk.
One of the primary reasons why REITs make poor short-term investments is the high risk of volatility. They can rapidly move in and out of favor with investors. Right now, investors are loving the idea of REITs, but in two years, their view could be totally flipped.
However, those who have invested in REITs successfully in the past know that the best returns come to those who wait. This investment is in no way a get rich quick scheme, and REITs should only be undertaken by investors who plan to wait a substantial amount of time before cashing in.
4. Taxes can be tricky.
The law mandates that 90 percent of income obtained through REITs must be passed on to the shareholder. Those shareholders are required to pay taxes on the income they receive without the benefit of a favorable capital-gains tax rate. For that reason, those in a high tax bracket may struggle with REITs at tax time.
The good thing is that REITs are only taxed once per year for shareholders, while corporate dividends are taxed twice, making them subject to double taxation. Ultimately, the best way to use REITs to their full benefit is to defer them to IRAs or 401(k) accounts.
Overall, when managed correctly, REITs can be a welcome long-term investment. By measuring the risks and performing research on today’s market, savvy investors can find REITs to be truly profitable.