REITs (Real Estate Investment Trusts)
REITS or Real Estate Investment Trusts are companies which own and manage property. The properties can cover a wide range including residential and commercial property.
REITS are closed-ended PLCs traded on the stock exchange and in the UK have been around since 2007.
There are over 50 REITs on the London Stock Exchange. Some of the most famous ones are British Land who own many shopping centres, The Big Yellow Group who own The Big Yellow Group Self Storage and Tritax Big Box who own warehouse facilities for the likes of Amazon and Argos.
One fascinating point for investors is that in the UK REITs have to pay out at least 90% of their taxable income as dividends to shareholders.
Profits and gains from property rental are tax-exempt for the REITS, so they pay no corporation tax on this part of the business.
Benefits of REITs
- Investors are effectively investing in property without having to do the hard work of buying and managing a property.
- With high investor pay outs and lower tax, investors can get more money back. Dividends can be higher than with many investments. On Trustnet there are currently 31 REITs, 30 of these have a dividend yield with an average of 6.4%.
- REITS can also be held in tax free savings accounts such as ISAs.
- Unlike when buying property, REITS are highly liquid. This means that you can usually easily sell your investment.
Disadvantages of REITs
- The value of the REIT can decrease as well as increase.
- REITS are not covered by the Financial Services Compensation Scheme (FSCS) if the company goes bust.
- REITS may show slower growth than other types of investments, this is because on the property rental side they have to pay out 90% of profits. They can therefore only re-invest 10%.
How to Buy into a REIT
REITS are traded on the stock market, you can buy shares in them like normal companies. This can be done through a fund platform. Shares can also be bought through tax efficient wrappers such as ISAs.
REITs are also available as Exchange Traded Funds (ETF). This means that when you buy into an ETF you will be being into multiple REITs at once.
REITs vs Buy To LET
Of course in this article we have to compare REITs to buying property outright. For most of us property investment would be in the form of a buy to let.
Generally it would be difficult to argue that a REIT could outperform any purchase of property. There are 3 major reasons for this. The first is leverage.
1. Leverage – When you buy a property it’s likely that you will take out a mortgage. The common minimum is 25% loan to value. So if you buy a house for £200k you just need to put down £50k (excluding stamp duty and fees). That means that if a property rises by 5% you’ll actually be getting a rise of 20% on your investment, because you have only put down a quarter of the investment. In a realistic example you buy a property for £200,000 , with a deposit of 25% at £50,000 and stamp duty is £7500. Solicitor fees and survey fees could be another £2,500. So in total you’ve put down £60,000. That’s a 30% deposit or a multiplier of 3.33. Therefore if the value of your property increases by 5% , the increase on your initial investment is 5% x 3.33 = 16.66%. This is just a quick example, you’re also going to have to consider mortgage fees, management fees, taxes and wear & tear on an ongoing basis.
2. Possibly Greater % Income – Your average dividend yield for a UK REIT is likely to be around 5%. The average gross yield of a straight forward long term residential let is approximately 5% or 6% or after mortgage costs etc the net yield is 1.5%. Don’t forget the multiplier is still in force for you Return On Investment. That means that you can multiply that yield by 3.33% to get a yield of 5%. For some properties though such as holiday lets, this could be many times higher.
3. Effort – In investing terms, as a general rule the more time and effort that you put in the more you will get out. In property a long term let might get you a gross yield of 5%, whilst a House of Multiple Occupancy (HMO) might be 10% and a Holiday let 12%. Compare these to a REIT which from your point of view involves a few clicks, well you can’t expect these incomes to be similar at all.
Can you get leverage on a REIT?
Yes you can, but mainly in the USA. The issue is that whilst profits are enhanced so are losses. The question then becomes can you ride this out so that if you get into a loss you can hold on until profit.
Can REITs go bust?
Potentially yes, but it’s unlikely that shareholders will lose all their money as assets can be sold off. Problems have originated largely in America with highly leveraged REITS which are far riskier.
Buying REITs at a Premium or Discount.
When you go to buy a REIT you will see a Net Asset Value (NAV). If the share price is below this then you are buying at a discount, if it’s above then you are paying a premium. You can read more about this in our Investment Trust guide.
Average returns from REITs.
As UK REITs have only been going since 2007 it’s not easy to give them a definitive comparison to the general stock market Index.
The FTSE EPRA Nareit UK Index is a subset of the FTSE EPRA Nareit Developed Index and is designed to track the performance of real estate companies and REITS listed on the London Stock Exchange.
On the 28th February 2020 FTSE Russell published data that showed that the FTSE UK 5 year performance was 16.7%, the FTSE EPRA Nareit UK was just 6.6%.
Investopedia has written an article on Average Annual Returns for the USA. They found that the average annual return of REITS is 10.5%, compared to the S&P500 which is more like 9.8%.
Forbes also published an article that showed ‘REITs have a long history of outperforming direct real estate investing and the trend is expected to continue. For example, from 1977 to 2010, REITs have returned more than 12% annually’.
