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Apartment Loans Secrets
Last updated on Feb 19, 2023
3 min read
by Content Team

Understanding Real Estate Investment Trusts (REITs)

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In this article:
  1. What is a REIT?
  2. The Different Types of Real Estate Investment Trusts
  3. Related Questions
  4. Get Financing

What is a REIT?

In the simplest of terms, a real estate investment trust, or REIT, is an organized entity that owns, operates, and/or arranges financing for income-producing real estate assets. Similar to a mutual fund or syndication, REITs involve capital pooled from multiple investors. Many investors join REITs for the benefit of receiving dividends regularly from real estate investments without shouldering the whole burden of buying, managing, or financing a property on their own.

Real estate investment trusts came to be after an amendment to the Cigar Excise Tax Extension of 1960. A provision of the amendment allowed the purchase of shares in commercial real estate portfolios, which up until that time was only ever accessible to the extremely wealthy through established financial intermediaries.

Though most REIT portfolios have a singular focus on a specific asset sector, they can contain any number of income-generating asset types, including but not limited to hotels, apartment complexes, multifamily buildings, healthcare facilities, office buildings, retail centers, self-storage facilities, and warehouses, just to name a few. Some REITs even deal with infrastructure in the form of energy conduits, fiber optic cables, cell towers, and similar assets. REITs that do contain more than one asset type are often referred to as diversified or specialty REITs.

One of the most important aspects of REITs is their liquidity. Most REITs can, and are, publicly traded on securities exchanges — typically with significant volume.

The Different Types of Real Estate Investment Trusts

While there are the more common REITs that specialize in a single asset type and specialized REITs that have a little more diversity, these distinctions are only the tip of the iceberg. As far as investors are concerned, REITs can be broken down into three distinct types — equity REITs, mortgage REITs, and hybrid REITs.

  • Equity REITs - Making up the majority of existing real estate investment trusts, equity REITS own and sometimes operate income-generating real estate, with rental income providing the basis for revenue generation.
  • Mortgage REITs - Growing in popularity, these REITs serve as lenders to owners and operators of commercial real estate assets. Mortgage REITs typically either lend money directly through mortgage or loan vehicles or via the acquisition of mortgage-backed securities. The interest, or more specifically the net interest margin, is the basis of revenue generation for this type of REIT. The net interest margin is the spread between interest earned on loans and the cost of funding those loans.
  • Hybrid REITs - Also steadily growing in utilization, hybrid REITs partake in both equity REIT and Mortgage REIT strategies, earning from both revenue streams and sharing the risks of both as well.

Related Questions

What is a Real Estate Investment Trust (REIT)?

A real estate investment trust, or REIT, is an organized entity that owns, operates, and/or arranges financing for income-producing real estate assets. Similar to a mutual fund or syndication, REITs involve capital pooled from multiple investors. Many investors join REITs for the benefit of receiving dividends regularly from real estate investments without shouldering the whole burden of buying, managing, or financing a property on their own.

Though most REIT portfolios have a singular focus on a specific asset sector, they can contain any number of income-generating asset types, including but not limited to hotels, apartment complexes, multifamily buildings, healthcare facilities, office buildings, retail centers, self-storage facilities, and warehouses, just to name a few. Some REITs even deal with infrastructure in the form of energy conduits, fiber optic cables, cell towers, and similar assets. REITs that do contain more than one asset type are often referred to as diversified or specialty REITs.

One of the most important aspects of REITs is their liquidity. Most REITs can, and are, publicly traded on securities exchanges — typically with significant volume.

While there are the more common REITs that specialize in a single asset type and specialized REITs that have a little more diversity, these distinctions are only the tip of the iceberg. As far as investors are concerned, REITs can be broken down into three distinct types — equity REITs, mortgage REITs, and hybrid REITs.

  • Equity REITs - Making up the majority of existing real estate investment trusts, equity REITS own and sometimes operate income-generating real estate, with rental income providing the basis for revenue generation.
  • Mortgage REITs - Growing in popularity, these REITs serve as lenders to owners and operators of commercial real estate assets. Mortgage REITs typically either lend money directly through mortgage or loan vehicles or via the acquisition of mortgage-backed securities. The interest, or more specifically the net interest margin, is the basis of revenue generation for this type of REIT. The net interest margin is the spread between interest earned on loans and the cost of funding those loans.
  • Hybrid REITs - Also steadily growing in utilization, hybrid REITs partake in both equity REIT and Mortgage REIT strategies, earning from both revenue streams and sharing the risks of both as well.

What are the benefits of investing in a REIT?

Many investors find REITs desirable for a plethora of reasons. For starters, they are a relatively easy starting point in commercial real estate investment. Because most REITs can be traded on public exchanges and are substantially liquid in nature, they are simple to buy and sell — easily removing one of the biggest drawbacks of traditional commercial real estate investing. This of course lends to their popularity as a means of diversifying an investment portfolio that may be weak in the real estate sector.

On that same note, investing through a REIT also reduces the need for an investor’s hands-on property and operations management. REITs handle these while providing investors a stable dividend paid out at regular intervals.

In terms of performance, REITs have actually managed to outperform the S&P 500 and the rate of inflation over the course of the last 20 years. Beyond the stability of the cash flow REITs can provide, many investors simply enjoy the attractive risk-adjusted returns. And, while it may not always be the case, the dividends that can be earned from them are often much higher than any dividends that can be achieved through most other investment vehicles.

What are the risks associated with investing in a REIT?

Investing in REITs can be a great way to diversify your portfolio and gain exposure to the real estate market. However, there are some risks associated with investing in REITs that you should be aware of. These include:

  • Price appreciation is not always guaranteed, as REITs are required to pay no less than 90% of their taxable income to investors as dividends.
  • REITs are subject to both real estate market and stock market trends.
  • Investors have no control over the fund’s operation.
  • Investors do not receive passive income.
  • Fewer tax benefits.
  • Higher maintenance fees.

What types of REITs are available?

There are three distinct types of REITs available: Equity REITs, Mortgage REITs, and Hybrid REITs. Equity REITs own and sometimes operate income-generating real estate, with rental income providing the basis for revenue generation. Mortgage REITs serve as lenders to owners and operators of commercial real estate assets, with interest, or more specifically the net interest margin, providing the basis of revenue generation. Hybrid REITs partake in both equity REIT and Mortgage REIT strategies, earning from both revenue streams and sharing the risks of both as well.

Equity REITs are the most common, and focus on holding and sometimes operating income-generating real estate, with rental income providing the basis for returns. Mortgage REITs focus primarily on lending money to commercial real estate investors, with interest driving returns. Hybrid REITs are mashups of equity and mortgage REITs, offering both sources of investor returns.

How can I find the best REITs to invest in?

The best REITs to invest in depend on your individual goals and risk tolerance. It's important to research the REITs you're considering and understand their portfolio size, market value, and asset diversity. You can also look into the REIT's history and track record to get a better understanding of their performance. Additionally, you can read up on the REIT's management team and their experience in the industry. Finally, you can look into the REIT's liquidity and whether or not it is publicly traded on a securities exchange.

For more information on REITs, you can check out this article from Apartment.Loans.

In this article:
  1. What is a REIT?
  2. The Different Types of Real Estate Investment Trusts
  3. Related questions
  4. Get Financing
Tags
  • REIT
  • Real estate investment trust
  • commercial real estate
  • income property investing
  • apartment investing
  • multifamily investing
  • mortgage REIT
  • equity REIT
  • hybrid REIT
  • commercial real estate investing

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