Commercial Real Estate REIT 101

It is widely known that commercial real estate investment trusts (REITs) produce stable and increasing returns. Investors of all income levels have turned to real estate for investments—from private homeowners to businesses operating investment organizations.

In general, a portfolio with numerous properties is safer than one with just a single or a couple of properties—and it is more stable for the investor to spread the investment burden than to invest alone. This is where commercial REIT investment comes into play.

What is a REIT in Commercial Real Estate?

Commercial REITs are real estate investment trusts that place funds exclusively in income properties, such as office buildings, restaurants, parking lots, hotels, conference centers, and more.

It is possible for an investor to make a lot of money in commercial property—especially when there is more than one income-generating business tenant in a building. However, the threshold for investing is quite high for individuals.

Investing in REITs allows shareholders to pool resources and buy profitable, stable commercial properties and then share the profits. REITs store their properties in trusts, which then jointly hold the titles and manage the assets.

How REITs Work

REIT investing was created by Congress in 1960 and can own office, retail, industrial or multi-family properties such as apartment buildings and residential complexes.

Commercial investment properties are often purchased and held by investors to earn income through rental income and accumulate capital gains through property appreciation.

Commercial real estate has become more accessible to everyday investors due to these special investment vehicles. Because income properties require so much capital to own and maintain, institutions and wealthy individuals were the only ones who could invest in them.

Since REITs are regulated securities, they must meet certain Internal Revenue Service (IRS) standards that reduce investor risk. The following requirements must be met:

• Dividends of at least 90% of taxable income should be distributed annually to shareholders.
• The REIT must receive at least 75% of its gross income from real estate activities, such as rent collection and interest payments on mortgages and financing properties held in the REIT.
• A minimum of 75% of their total assets should be invested in real estate.
• After the first year of inception, the company must have at least 100 shareholders.
• In the last half of the tax year, no more than 50% of the shares should be owned by five or fewer individuals.

How to Invest in Commercial Property REITs?

There are three types of real estate, these are residential, industrial, and commercial.

Commercial property is a place where business activities are carried out, including an office building, a hotel, a manufacturing building, a convenience store, and so on.

Since they provide higher returns than residential properties, commercial REITS are considered good investments. This, however, means that investors will need to invest a great deal of money into setting up real estate properties and customizing each unit according to the preferences of every tenant.

Investments in income properties can be made either directly through the ownership of real estate properties or indirectly through shares of REITs that invest in commercial properties.

Direct Investment

For new construction or acquisitions of existing commercial properties, direct investment requires a considerable amount of capital. Investing in commercial real estate entails a high level of risk and high returns. 

A person who invests directly in such properties must possess significant knowledge of the industry and a large amount of capital.

Indirect Investment

Investing in real estate indirectly is the most popular method of investing without having to spend too much money or be directly involved with the property. Real estate investment trusts that specialize in income properties allow investors to own commercial real estate.

In the same way that stocks and bonds are purchased, REIT shares are developed and owned by investors. Investing indirectly means that no mortgage will be required to own properties, as is the case with direct investments.

The Pros and Cons of Investing in Commercial REITs

Commercial REITs aren't right for everyone, but when evaluating if they are right for you, there are some things to consider.

Pros of Commercial REITs

• Higher Return On Investment - REITs are legally obligated to distribute 90% of profits to shareholders, so they offer a higher return on investment.
• Easy To Invest - Comparing public REITs to private funds, investors can purchase commercial REITs the same way they buy stocks and bonds, allowing them to get in on the action quickly and without investing much money.
• Invest Without Taking Out A New Mortgage - Since acquiring funding for a real estate property requires so much capital, there is an added risk when directly investing. A commercial real estate investment trust allows investors to spread the risk and money across the trust's investors.
• No Management Responsibilities - Direct real estate investments can pay off in the long run, but they also come with considerable risk, and they require time, headaches, and effort to manage. Investing in commercial REITs allows investors to receive passive income without managing a property.

Cons of Commercial REITs

• Easily Affected by Interest Rate Fluctuations - REITs are often directly impacted by interest rate fluctuations. When rates go up, REITs also go up. As a result of low-interest rates, the economic outlook may not be great, which can lead to real estate investors not buying and selling, as well as impacting REIT performance.
• Yields Change With The Economy - REITs are especially susceptible to yield changes due to the impact of economic changes at the global and local levels. For instance, COVID-19 drastically affected the commercial real estate market, with everyone going home to work rather than to the office. The decline was unavoidable, but it's an example of how fast REIT returns can change when the economy changes.
• Dividend Taxation - The entity gets special tax treatment from the IRS, but not the investor. Unlike other investment vehicles, REIT dividends are taxed on an individual basis at the same rate as long-term capital gains.

Start Investing in Commercial Property with Saint Investment Group

Buying shares of a REIT is an attractive way to build a commercial real estate portfolio without actually owning or managing a property.

While other real estate investment vehicles offer many opportunities for profit, when you consider the cost of your time, REITs enable investors to invest passively while spreading out the risk across all shareholders.

Our team is here to help you understand what is a REIT better! We are experts at investing in commercial real estate, and we inspect each property thoroughly before selecting it for investment, providing you with greater security.

To leverage the expertise of our commercial real estate team, contact us at 949-881-7128 at Saint Investment Group today!