Non-Traded Real Estate Investment Trust (REIT)

A REIT is a corporation whose business is real estate. Using a pool of money raised from investors, the REIT purchases buildings, or, less frequently, the mortgages on buildings. A REIT has a management team that is responsible for overseeing day-to-day operations and ensuring that the corporation is profitable. Among other things, this means that the REIT is focusing on producing a steady stream of revenue for its investors.

Most REITs are publicly traded. Their shareholders range from individuals to large institutions, such as: Pension Funds, Insurance Companies, and Mutual Funds. There is also an active secondary market, where REIT shares trade at a discount or premium too—that is, for less than or more than—their net asset value (NAV), or worth on paper.

Non-traded REITs are available to investors who meet certain suitability standards. Here, too, the list may include both institutions and individuals. However, there is no formal secondary market for these REITs and shares trade infrequently. These REITs tend to be non-correlated with traditional investments, which means that they may not be fluctuating in value similarly to traditional investments.

When REITs are publicly traded, they are subject to the pressure of meeting short-term expectations, just as other listed investments are. If these REITs seem to be providing stronger returns than other securities, they may attract added attention and their share price might rise. However, if their returns are weaker than those of other securities, they face the risk that investors will sell, even if it means taking a loss or putting pressure on management to make changes. Because the daily price fluctuations affecting publicly traded REITs tends to be driven by changing economic conditions, these REITs tend to rise and fall with other equities in the marketplace rather than providing a hedge against volatility. While publicly traded REITs may fluctuate daily, they may be more liquid and have varying or lower fees.

REIT income flows to you and other investors in the form of monthly or quarterly dividends based on rent or mortgage payments from the REIT's investments. Equity REIT dividends often increase as rent payments increase, which can provide a hedge against inflation—though the dividends can drop in a market downturn or if the properties lose value.

If you’re retired, or you rely on income investments to supplement your annual earnings, REIT's can provide a relatively stable cash flow. Similarly, you can use REIT income to fund college expenses or charitable remainder trusts, and, of course, you can use REIT income to make additional investments. While REITs may indicate a distribution or projected rate, these rates are not guaranteed and may change.

REIT's don’t have to pay corporate income tax, so long as they retain their REIT stature. They’re subject to an IRS rule that requires these corporations to pay out 90% of their taxable income as dividends. Because they do not pay corporate taxes, they may pay out rather than pay taxes.

A special benefit of investing in REIT's is that the REIT depreciates the real estate assets against income. The income is then taxed at the lower long-term capital gains rates.

Another advantage of REIT's is that they don’t generate, "Unrelated Business Taxable Income" or (UBTI), an important consideration for investors who own these investments in a tax-deferred or tax-exempt account such as an IRA or 401(k), or in a charitable remainder trust. (UBTI results when an otherwise tax-exempt organization realizes any income from a taxable subsidiary.)

Because a REIT does not pay corporate taxes, taxable REIT dividends don’t usually qualify for the low rate that applies to most equity dividends—currently a maximum of 15%. Rather, when tax is due, it’s at your current rate for regular income, up to 35% at the federal level. Long-term capital gains distributions, on the other hand, are taxed at the lower rate.

How Diversified are REITs?
The majority of REIT's own property and often specialize in a particular type of real estate—such as apartment buildings, hotels, shopping centers, self-storage units, office buildings, hospitals and other healthcare facilities, or low-income housing developments. Some equity REIT's are geographically focused, while others are national.

You can diversify your REIT investments by buying REIT"s concentrating in different geographic regions, different areas of real estate, or different industries or market sectors. Although diversification is employed by most advisors, it does not guarantee results nor eliminate risks.

Before you invest in a REIT, you and Chandler Financial Group, Inc., should review the quality and depth of the management team and the company’s business plan. You’ll want to consider the managers’ experience in overseeing the types of properties the REIT owns, as well as their experience in the industry, market sector, and geographic region where the REIT does business.

Because so much of a REIT’s cash goes to pay dividends, the business needs access to outside sources of capital. So in evaluating a REIT’s business plan, you’ll want to consider the provisions it has made for growth—specifically how it plans to raise new money.

The options are:
The sale of additional shares
Mortgage debt secured by its real estate assets
Corporate debt dependent on the company’s overall creditworthiness

The REIT’s overall debt level is another factor to consider. As the debt level increases, so does the business risk—and hence your investment risk.

You should check to see if a REIT’s debt is at the portfolio level or at the individual asset level. Portfolio level debt can be riskier than asset-specific debt because when debt is linked to a particular asset, the lender doesn’t have any recourse beyond that asset if the tenant defaults.

Non-traded REITs may be illiquid and subject to additional suitability requirements. Please discuss with an advisor prior to investing. The information here should not be the basis of any decision.

REITs are subject to the risks of the real estate market, are not guaranteed investments, and may lose principal. REITs are illiquid and not trade in a public market and must be redeemed from the issuing company. Carefully read the REIT prospectus and consider the investment objectives, risks, and charges and expenses before investing.