How To Invest in Real Estate Without a Lot of Money
You’ve probably been seeing a lot of headline news about the booming housing market despite (or because of) COVID-related challenges. According to Bloomberg, the U.S. housing market has gained $10 trillion since the pandemic. In nearly every market big and small, home prices have been hitting record highs.
From soaring prices to buyer bidding wars, how do you get in on this housing boom without a lot of capital? One answer is REITs, or real estate investment trusts. Here’s a simple introduction to how you can earn the benefits of real estate investing without needing a lot of capital to get started.
1. First, what is a REIT?
A REIT is a company that owns (or finances) a portfolio of income-generating real estate assets, and can be traded on the open market like a stock. There are a variety of REITs to choose from, each focused on a real estate category, like shopping malls, healthcare, self-storage, etc. For a complete list, visit REIT.com.
2. The benefits of investing in a REIT
There are tax advantages to an entity that qualifies as a REIT versus a typical corporation, but there are also different rules. Did you know that REITs are required to return at least 90% of their income to shareholders?! This payout is called a dividend payment. Because you don’t need a lot of capital to invest in a REIT compared to traditional real estate, REITs have become attractive to investors. Why? Because they offer access to this asset class without having to take on the responsibility of owning physical property.
Many investors also overlook the importance of liquidity. When you invest in property, your down payment is tied up in the property until you sell. Since a REIT is traded on the open market, you could theoretically sell owned shares whenever you want, as opposed to waiting weeks or months when selling your investment property.
3. How to diversify your portfolio
REITs are also a good way of balancing your portfolio. For example, the largest holdings in my portfolio are multifamily properties. If I wanted to diversify, I might look at the growth trend of e-commerce and buy shares of a REIT in the industrial warehouse space. One example of this is Prologics (ticker: PLD).
4. What are the risks?
With any investment, there are always risks. Here’s a handy checklist to use when considering investing in a REIT:
- Property risks
- When the COVID-19 pandemic hit, the travel and hospitality industry was decimated. Hotel REITs like Sunstone Hotel Investors (ticker: SHO) cut their dividend that year.
- Dividend taxation
- Ordinary dividends are taxed as ordinary income, but sometimes dividends can be classified as “qualified dividends,” which are taxed at a lower rate. Consult your tax professional to confirm your tax rate.
- Market risk
- Compared to a tech growth stock, you might not see as much appreciation in a REIT since so much of the company’s income is paid in dividends.
- As interest rates rise, REITs also have the risk of declining in value.
5. What to look for when you invest in a REIT
Make sure you do your due diligence and evaluate the company—just as you would when purchasing a home or publicly traded stock. Look for a company with a lengthy track record of paying dividends to shareholders in addition to a strong balance sheet. Here are some no-brainer metrics to judge performance: their cash flow or funds from operation (FFO), net operating income, occupancy levels and rent per square foot.
If you’re interested in dipping your toe into the world of real estate investing, REITs are a good way to understand the business, earn dividends, and get started without taking on a ton of risk. Follow companies you’re curious about and learn how they operate. Have fun, consider your risks and good luck!
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