A real estate investment trust (REIT) is a corporation that combines the capital of many investors to acquire or provide financing for real estate. It offers the benefits of a real estate portfolio under professional management and generally does not pay corporate federal income tax.
Distributions of at least 90 percent of taxable income must be paid to investors to retain REIT tax status. If a REIT fails to maintain qualification as a Real Estate Investment Trust respectively, for any taxable year, the program will be subject to federal income tax and net earnings available for investment or distributions would be reduced.
Today’s market offers traded and non-traded REIT options for investors seeking to add commercial real estate to a portfolio. Traded REITs, which are listed on a public exchange, offer liquidity to investors. However, they experience daily stock market price fluctuations based on consumer sentiment.
Non-traded REITs are less liquid than their traded counterparts, but they provide retail investors access to commercial real estate outside of the stock market. In addition, the REIT structure is aligned with the long-term nature of the real estate in which it invests. Non-traded REITs also seek to provide the diversification benefits that are frequently associated with commercial real estate. It is important to note that low correlation does not guarantee protection against losses.
Investors interested in diversifying through real estate may purchase shares in a non-traded REIT. The REIT uses that money to acquire real estate properties and other real estate-related assets. As capital is raised, the REIT builds an asset portfolio consistent with its investment strategy. The management team oversees the property portfolio and may be involved with its day-to-day operations. Towards the end of the non-traded REIT's life cycle, it will either list its shares on the public exchange or liquidate its assets and distribute proceeds to investors.
It is important to understand that investing in commercial real estate is a long-term activity. As such, there might be liquidations at less than original amounts invested and sometimes illiquidity throughout the REIT’s multiyear life cycle. However, this frees the REIT from some of the short-term pressures associated with the traded market, thus enabling the REIT’s management team to focus on a long-term strategy.
Distributions are not guaranteed and may consist of income offering proceeds and borrowings. When distributions are paid from sources classified as return of capital or borrowings, it may reduce the number of acquisitions, lower overall returns and not be sustainable.
Non-traded REITs are complex and varied. Please read the REIT’s prospectus carefully. In the early stages of a REIT, the investment typically exhibits greater risks, which include: few or no properties, limited operating history, has not elected or qualified as a REIT to obtain lower portfolio taxes to improve shareholder returns. Due to the high levels of investment costs and fees incurred with the REIT, early distributions will not be fully covered by cash flows from operating activities and will be paid from expense waivers, borrowings and offering proceeds. After the REIT has a couple of years of operating history, the majority, if not all of the distributions should be covered by cash flow from operations. The REIT’s limited redemptions and distributions are not guaranteed and subject to suspension, modification or termination by the REIT at any time. During the middle stages of the REITs life cycle, leverage will typically increase and shareholders’ votes are typically limited to a rare vote on major portfolio changes and members of the board of directors, as detailed in the prospectus and proxy. The REIT’s management team and board of directors exercise independence in managing the portfolio’s investments.
Non-traded REITs are not suitable for all investors. Suitability standards are extensive and generally require an investor to have a net worth of at least $250,000, or a net worth of no less than $70,000 and an annual gross income of $70,000 or more.
In addition to limited liquidity and possible illiquidity, investments in non-traded real estate and REITs are subject to significant risks. These risks include limited operating histories, reliance on the advisors, conflicts of interests and payment of substantial fees to the advisors and their affiliates. Investing in these products is not suitable for all investors. A financial professional should determine whether risks associated with an investment in the shares are compatible with their client’s investment objectives.
This is not an offer to sell nor a solicitation of an offer to buy shares of the REIT. Only the prospectus makes such an offer. This piece must be read in conjunction with the prospectus in order to understand fully all the objectives, risks, charges and expenses associated with an investment and must not be relied upon to make a decision. The information herein does not supplement or revise any information in the REIT's public filings. To the extent information herein conflicts with the prospectus, the information in the prospectus shall govern.
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