What is Real Estate Investment Trust and Why it is Useful
The field of finance is laden with plenty of technical terms. For instance, the basic accounting equation is assets equals capital less liabilities. When a company's liabilities are subtracted from their capital it renders their assets.
Another example is depreciation. When an asset is used, its value is likely to diminish as a result. Wear and tear is one reason why the valuation may decline. A formula is deployed to assign a value to the asset when it is sold for instance. This is calculated by taking the depreciable amount and dividing it by the useful lifespan of the asset. We will arrive at the depreciation expense when we use these values.
Likewise, a Real Estate Investment Trusts is another concept, which we will examine in detail.
What it Means
Real Estate Investment Trusts or REITs are firms that operate as owners of properties such as buildings and land. The objective of investors is to make a profit from this real estate venture. Any property is essentially a source of income.
The word trust in the name delineates an organization which oversees a diverse portfolio of properties which are bought for the sole purpose of generating income. In terms of the actual business practice, real estate is rented to tenants who pay rent, which counts as the income or dividends for shareholders.
Moreover, Real Estate Investment Trusts are generally listed on the stock exchange as well. They are liable to pay a minimum of 90% of the taxable income to investors, such is the letter of the law. An attractive business proposition, Real Estate Investment Trusts is quite popular in North America, with nearly 80 million Americans having an investment therein.
Types of Real Estate Investment Trusts
There are several Real Estate Investment Trusts that members can avail.
- Equity Real Estate Investment Trust
The typical trust will operate as an Equity trust. These are listed on the stock exchange, and members generally own commercial properties and retail stores.
- Mortgage Real Estate Investment Trust
This is another kind of Real Estate Investment Trust. The mechanism involves owning the debt on the property in question. Financing is provided and the interest earned from such securities is how they earn money. Also, the difference between interest earned and the cost of funding mortgage REITs is called the net interest margin.
- Hybrid Real Estate Investment Trust
As the name suggests, this is an amalgamation of the two types mentioned above. A company which invests in both equity and mortgage trusts known as a hybrid trust.
- Public Real Estate Investment Trust (Non-Listed)
These are acknowledged by the Security and Exchange Commission but do not trade on the stock exchange
- Private Real Estate Investment Trust
These are not registered with the SEC and they are not included in stock exchange listings as well.
Conditions that Must be met
To qualify as a Real Estate Investment Trust, companies must meet certain prerequisites. They must invest at least 75% of total assets in properties. Their gross income earned from these business dealings must also be 75%.
Additionally, they are required to pay 90% or more of taxable income as dividends each year. A board of directors must be appointed and the minimum number of investors must be a hundred as well. Lastly, no more than half the company can be owned by five people or less.
How to Invest in Real Estate Investment Trusts
When it comes to Real Estate Investment Trusts, the next step is to explain the mode of operation. The prevalent method of making an investment is on a public trading platform. An example is the stock exchange.
Investors can employ mutual funds as well. For instance, a broker or financial advisor can assess investment options and deem it appropriate. REITs specifically invest in specific commercial endeavors like shopping malls.
Why Invest in Real Estate Investment Trusts
One benefit to investors is that they don’t have the burden of maintenance. Another is that their money is diversified into many properties, so if there is a financial problem with one, your investment is still covered via the income from the other properties.
Additionally, REITs are considered a safe business avenue with a low-risk threshold. They ensure meaningful returns and are not linked to other assets, which mean investors can maintain a diversified portfolio.
Being a stakeholder in a Real Estate Investment Trust is almost always a profitable venture for investors. Real estate is different from other outlets since the asset is not prone to significant deterioration or depreciation. On the other hand, their value can appreciate over time. This is why real estate is a safe bet.
Also, real estate investments are liquid in nature. Stocks are readily available on the exchange which can be bought and sold easily. If investors wish to make a transfer, they can simply sell their shares on the exchange. Moreover, in economics, the land is considered one of the factors of production. It is fixed and tangible by nature, which means it is a steady investment opportunity as well.
Real Estate Investment Trusts have a number of advantages, some of which are highlighted above. We have alluded to the merits of Real Estate Investment Trusts and we can further elaborate on how advantageous these can be for investors.
Investment Trusts allows easily accessible, indirect investment in real estate. It is a professionally managed portfolio of properties which is open to all investors, some of who may not have such opportunities otherwise.
The factor of risk is diminished while the investment portfolio is expanded. Earnings are not subject to taxation which means they are maximized even further. Dividends earned by the investors are taxable only.
The fact that REITs pay at least 90% and in some cases, all of their profits is also an advantage. Finally, assets can be liquidated into cash easily through the relevant stock exchange as well.
On the whole, Real Estate Investment Trusts can be extremely reliable and profitable ventures for investors.
Posted On June 26, 2018