One way to invest in real estate is through a Real Estate Investment Trust (REIT) a type of fund that is growing in popularity - giving the opportunity to invest in property with far fewer obstacles.
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What is a REIT?
A REIT is a collection of properties that is bought, managed and sold on behalf of the investor.
Instead of house hunting, putting in a bid, getting a mortgage, letting agent etc, you would simply invest into a trust and the trust managers handle everything for you.
Lets say that there are ten property investors each with identical houses worth £100,000 each that they want to rent out for £10,000/year (all numbers are for demonstration).
If they buy the properties individually they would make £10,000 per year, and if they saved all of that after 10 years they could buy a second home and make £20,000 per year (for simplicity we are ignoring inflation etc).
But what if they pooled their money into a trust?
The ten investors would each own a 10% stake of a £1 million property portfolio. After the first year they would also get £10,000 each but collectively could afford another property.
Assuming they re-invested the rent every year into a another property, they would collectively own 23 houses and each earn £23,000 per year in rent (plus an accrued cash sum of £30,000).
The earnings gap continues to grow with time as the group of investors are able to take better advantage of compounding.
Unlike common stock, REIT's are subject to more stringent rules - in the US for example 75% of the companies revenue must come from real estate.
These stringent rules have a downside - in most jurisdictions, including the USA, REIT's must distribute the majority of profit back to the investors.
This often means that a REIT dividend is treated as steady income by tax authorities - seeing as how a lot the returns of property is from the rent they produce, it may be best to hold REITs in a pension or tax sheltered savings scheme such as an ISA.
Advantages of a REIT
- Gives an individual exposure to a portfolio of properties at a lower cost than buying
- Easier to reinvest profits and therefore quicker to compound growth
- More liquid than owning property
- Passive investing in real estate
- Great way for digital nomads and travel lovers to be invested in property
Disadvantages of a REIT
- Returns can often be lower than owning property directly
- Miss out on feeling of running your own enterprise
- Getting a mortgage/ using debt to invest in REITs may not be possible
- You still need a place to live; some people might be better off to kill two birds with one stone and live in their investment.
This article is not advice and has not been prepared in accordance with legal requirements designed to promote the independence of investment research – no recommendations are given in the buying, selling or holding of any investments. Past performance is not a guide to the future. Investments rise and fall in value so investors could make a loss.