Buy diversified property portfolio in single move

Buy diversified property portfolio in single move
25 April 2012

WANT to get exposure to property without having to put all your eggs in one basket and buy property directly? Then, this lesson on real estate investment trusts, or REITs for short, will be of interest.

A REIT is a company that owns and manages property – both commercial and residential – on behalf of shareholders, giving investors wider opportunities for accessing this important asset class.

REITs provide a genuine opportunity for the average investor to invest in property without needing to have significant capital at their disposal and without having to possess any specialised knowledge of property markets.

They offer simple, low-cost access to an asset class without any of the hassle normally associated with property investment. They also offer access to projects that would not normally be open to ordinary investors. Let’s take a closer look at the benefits...

Favourable structure

REITs were designed to provide a property investment structure similar to that provided by mutual funds for investing in stocks.

In the UK, REITs can apply for ‘UK REIT’ status, which exempts the company from corporation tax. In return, REITs are required to distribute 90% of their taxable income to investors.

Attaining this status removes the potential for double taxation at both the corporate and the investor level and is intended to help align returns from property held within REIT structures with that held directly.

Professional management

In most cases, investors who buy a rental property are left to their own devises. REITs, on the other hand, give investor the opportunity to have their properties managed by professional investors who know the industry.

REITs offer greater investment opportunities than those open to lone investors thanks to their ability to raise money on capital markets.

The benefits are not limited to the financial prowess of the management team. Owners of REITs aren’t going to receive phone calls at 3am to fix an overflowing toilet!

The listed status of REITs also ensures high standards of corporate governance, disclosure, transparency and scrutiny by analysts and investors.

Limitation of personal risk

REITs can significantly limit personal risk. How? If an investor wanted to acquire property, he or she would probably have to take on debt by borrowing money from family, friends or a bank. This often entails a personal guarantee on the funds. This can leave investors exposed to a potentially devastating liability in the event that the project is unsuccessful.

The alternative is to come up with significant amounts of capital by reallocating other assets, such as stocks, bonds, mutual funds and life insurance policies. Neither of these options is ideal.

Buying a REIT, on the other hand, can be done with only a few hundred dollars as share prices are often as low, if not lower, than equities. An investor who wants to invest $3,000 in property will reap the same rewards on a prorata basis as someone who wants to invest $100,000.

In the past, it simply wasn’t possible to achieve this kind of diversification in property without taking on partners or using leverage.

Liquidity

Unlike direct property ownership, a REIT offers liquidity and daily price quotations. Holdings can be sold fairly quickly to raise cash or take advantage of other investment opportunities. REIT investors can also see at a glance the value of their holdings at any given time.

Many investors mistake daily price fluctuations for increased risk: this perceived disadvantage is actually one of the perks of owning REITs.

Property investors – after acquiring a house or flat – tend to become primarily interested in the future rental income prospects, not the potential resale value of the asset.

However, if an investor holds the property for 20 years, he or she is likely to have lived through significant boom and busts in the property cycle. Because of the lack of daily quoted resale valuations, many investors never stop to consider price fluctuations and mistake the lack of quoted price for stability.

Pic credit: ddpavumba/ FreeDigitalPhotos.net

Have you invested in REITs? Do you like the idea of it? Share your views by commenting below...

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Chartered financial planner
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