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October 19, 2018

Real Estate Investment Trusts (REIT): A Great Way to Diversify

Real Estate Investment Trusts (REIT): A Great Way to Diversify

Investing in real estate can be a lucrative way to diversify your portfolio. Real estate investing comes in many forms and there is a seemingly endless number of different strategies to complement each method.

One advantageous form of real estate investing is a real estate investment trust (REIT). REITs allow investors to diversify their portfolio without the hassles of directly acquiring property.

By investing in a REIT, you will:

– Be eligible for special tax advantages for income derived from dividends

– Have a diversified portfolio, protecting you from stock market volatility

– Have a professionally managed investment

– Benefit from the Trump-tax cuts (a possible 20% deduction)

– Have better success in reaching long-term financial goals

What is a REIT?

The U.S Security and Exchange Commission defines a REIT as a company that owns and typically operates income-producing real estate or related assets. The assets included in a REIT may be any commercial building such as office complex/building, shopping malls, multi-family housing, hotels, resorts, self-storage facilities, warehouses and even mortgages or loans.

Uncle Sam won’t take more than his fair share

There are several advantages to investing in a REIT compared to other avenues of investing. One of these benefits are in the form of reducing tax liabilities with the special tax advantage.

Like many companies, REITs pay dividends to investors. However, REITs are not taxed in the same way. REITs do not get taxed at the corporate tax rate, allowing them to avoid “double taxation.” Double taxation occurs when corporations pay the high corporate tax as well as the investor who is required to pay the personal income tax on profits earned.

As REITs do not have to pay the corporate tax, investors are only taxed once. For this reason, investors looking to derive an income from their investment look at REITs for this additional income stream as it allows them to keep more of their hard-earned money.

Protect your assets, diversify!

As discussed earlier, real estate is an excellent way to diversify a portfolio. Most financial experts agree that diversification in an investment portfolio should not be considered an optional strategy. It is necessary to reduce risk and increase returns.

During the dawn of our nation, wealth was measured in the amount of land a person owned. After the industrial revolution and the introduction of the securitization that fueled stock and bond ownership, wealth took on a much different form. But if you look over the last 30 years you can see that real estate has beat the stock market by a significant margin. Real estate remains a profitable investment option.

REITs typically show little to no correlation to other markets, like stocks or bonds, meaning that when the stock market shows its volatility, REITs remain unaffected.

Let a professional do the dirty work

Looking back again, prior to the passage of the Real Estate Investment Trust Act of 1960, only very wealthy individuals or corporations had the ability to purchase large income-producing commercial properties. Even now, it is very common for very wealthy investors to purchase commercial property on their own.

Although the potential to reap huge profits is there, a major pitfall is ensuring the management of the property is conducted appropriately. Bad management can destroy profits and turn a good investment bad very fast.

With REITs, investors can be confident their property is being managed professionally by a team who knows how to operate in the financial markets.

Also, there will never be a time that an investor must stress over completing emergency repairs, collecting rent, or evicting a tenant. Investing in a REIT means you will never have to experience a 3 AM call to fix a leaking pipe

Trump tax cuts bring an extra benefit

As many are aware, the tax bill President Donald Trump signed into law in 2017 had major effects on the financial markets. Provisions in the bill also benefit REITs, specifically the pass-through deduction.

The pass-through deduction benefits REIT investors by allowing them to deduct up to 20% of the dividends they earn from the REIT.

Pass through business are businesses like REITs that do not pay taxes at the corporate level. The income generated “passes-through” the intermediary, the REIT, to the investor who will pay the individual income tax. The pass-through is how double taxation is avoided.

The Trump tax – cuts will allow the 20% deduction on dividends earned through pass-through investments.

Two types of REITs: What’s the difference?

There are two types of public REITs, traded and non-traded…

Public REITs

Publicly traded REITs are traded on the stock exchange and both are filed with the SEC. Their performance also reported publicly, which adds a government required level of transparency.

The public REITs are available for any investor and usually require a minimum investment, which starts around $1,000. Like all shares traded publicly, the investment is liquid, and the owner can evaluate the performance of the shares they own daily. As a result, public REITs tend to focus on short term performance.

The liquidity of public REITs leads to a major drawback, which is high-upfront costs. They can be as much as 15%, but this may vary. The fees are a trade-off for being able to buy and sell shares of the REIT at will, but this may not be a sound strategy for an investor seeking long-term growth.

Private REITs

Private REITs are not available on the stock exchange and are not registered with the SEC. They are not focused solely on reaching short term or quarterly goals. Since they are not available on the stock exchanges, they are not subjected to its volatility.

Private REITs do not have upfront fees, focus on long term goals, and typically offer higher dividends for investors, as they are not concerned with daily performance.

Unlike Public REITs, Private REITs are not as liquid, meaning investors do not have the option to sell or redeem their shares at will. The positive side of this is it allows for more stability and allows the REIT to focus on real growth for the investor.

Ultimately, the type of REIT you choose to invest in is up to you, your individual goals and financial situation. Either way, REITs are a great investment vehicle and their popularity is sure to increase as investors look to diversify their portfolios.

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