Settling The REITs Vs Real Estate Debate

Key Takeaways

  • REITs own or finance income-producing real estate properties, allowing investors to profit from real estate without owning properties themselves.
  • There are three main types of real estate investment trusts: equity, mortgage and hybrid.
  • When it comes to investing in REITs vs real estate, investors should consider the best way to diversify their existing portfolios.

Real estate investment trusts (REITs) offer the chance for savvy investors to generate long-term income, without purchasing physical real estate. They are suitable for investors of all experience levels and offer a number of benefits. When it comes to REITs vs real estate, investors should examine how these investment opportunities can work together to create a high-performing, diverse portfolio.

How Do REITs Work?

REITs work similarly to mutual funds by awarding investors the opportunity to purchase shares in a company or association. REITs own or finance income-producing real estate. They can manage commercial or residential properties, and will often specialize in a certain type. Investors earn profits through dividends, which they then pay income tax on. REITs typically do not offer the same tax benefits of investing in direct real estate.

REITs were first established by Congress in the 1960’s as a chance to allow more individuals to get started investing in real estate. Their appeal stems from the fact that REITs require varying amounts of capital to get started. Additionally, they offer investors the opportunity to profit from real estate, without having to own or finance properties themselves.


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real estate investment trusts

Types Of REITs

There are three main types of REITs available today:

  • Equity REITS: Equity REITs deal with physical real estate. They will own and operate properties, generating the majority of their income through rent. It is not uncommon for equity REITs to specialize in a certain property type, such as apartments or office buildings.
  • Mortgage REITS: These involve investing in property mortgages rather than purchasing physical properties. They work by loaning money or buying existing mortgages from property owners. Mortgage REITs earn income primarily through the interest accrued on mortgage loans.
  • Hybrid REITS: Hybrid REITs are a combination of equity and mortgage REITs. They earn profits through a mix of rental income and mortgage interest.

Benefits Of REITs

There are numerous advantages of REITs that investors should become familiar with. Here are just a few of the benefits of REITs:

  • REITs are relatively low risk and cost efficient
  • They have historically performed well
  • REITs offer the chance to generate passive income
  • There is less volatility involved in REITs when compared to other investments

Low Risk & Cost Efficient

By investing in REITs, investors can work with multiple property types and companies. This spreads out the risk of the investment by preventing investors from being as dramatically impacted in the event one property is not performing well. While concentrated investments can lead to potentially higher returns, REITs allow investors to spread out their capital and mitigate risk.

Additionally, REITs are relatively cost efficient due to their high liquidity. Investors can typically sell their shares at any time, without penalty. REITs also allow investors to save money by avoiding high transaction costs. Investors can trade or sell their shares with minimal fees.

Historical Performance

Through long-term property appreciation, REITs have provided investors with consistent returns over time. Their historical performance is due to a number of factors. For example, REITs are not affected by short-term inflation and interest rate changes in the same way other stock portfolios are. REITs also benefit from property appreciation—a perk that also applies to direct real estate investing. Together, these factors have lead REITs to perform year after year.

Passive Income

REITs offer the chance to invest and passively earn profits through dividends. While investors can and should monitor the performance of their portfolio, they are not directly responsible for an REIT or its assets. When looking at REITs vs direct real estate, investors may notice both avenues provide the chance to generate passive income.

When purchasing real estate directly, investors can hire a property management company to oversee the day-to-day operations while reaping the benefits of rental income. Read this guide to learn more about generating passive income through direct real estate.

Less Volatility

REITs provide more stability when compared to stocks or other investment opportunities. This is due to the fact that real estate expenses are relatively predictable over extended periods of time. When it comes to owning and operating a rental property, companies (or investors) can use a number of calculations to predict the operating costs and plan accordingly. Equity stocks, on the other hand, are much less predictable and are thought of as more volatile compared to REITs.

REITs

Should You Invest In REITs Or Direct Real Estate?

When weighing REITs vs real estate, it is important to understand that a high-performing investment portfolio is typically a diverse one. By pursuing multiple investment opportunities, investors can increase their income potential and minimize overall risk. Therefore, when it comes to choosing an REIT vs real estate property, investors may be better off pursuing both.

REITs and real estate assets offer several of the same benefits, though there are a lot of misconceptions regarding their differences. REITs are often thought of as having lower initial costs than real estate investments. While REITs are generally more cost-friendly, there are a number of inexpensive financing options available for investors wishing to get started in real estate. Be sure to check out our guide to financing your first investment property to learn more.

Many investors are drawn to REITs as a way to get started in real estate because they are intimidated at the thought of purchasing properties themselves. It is important to understand that there are real estate investing strategies that can fit any investor’s goals and schedule. Investors can look into wholesaling, rehabbing, operating rental properties, and even house hacking as ways to generate income through real estate.

Those who consider the benefits of REITs vs real estate will find that the two investment opportunities are actually very similar. When pursued together, REITs and direct real estate can lead to a profitable investment portfolio. Check out this article to further understand the benefits of real estate investing.

Summary

REITs offer investors the chance to benefit from the historical performance of real estate, without directly owning property. For those looking at investing in an REIT vs real estate, remember that by choosing more than one investment opportunity individuals can not only increase their profits, but also minimize their overall risk.

Are you looking at REITs vs rentals? Let us know your thoughts in the comments below:

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