Do you want to invest in real estate with limited capital? REIT can help in this case. Here is a detailed guide on REIT passive income.
When it comes to passive income, real estate investment is as passive as it gets.
But, if you acquire your own properties, you’ll be dealing with stuff like maintenance, horrible tenants, and legal documentation, which can get quite frustrating over time.
However, if you consider investing in REITs, you can avoid these hassles while earning a passive income on your investment.
It sounds almost too good to be true, right? If you’re apprehensive about stepping into REIT passive income, here’s everything you need to know about the investment technique to make an informed decision.
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What Are REIT Investments?
REIT stands for Real Estate Investment Trusts. These trusts are companies that buy, manage, and oversee the legal issues of a property producing income.
This can be either rental income from residential properties or commercial income from office buildings etc. As an investor, you can buy a part of these properties and receive dividends from their income every month.
In a nutshell, REITs work like mutual funds for investors who cannot afford or manage real estate properties independently.
By investing in a REIT, you actually own a small part of their real estate properties. This means if you want to earn real estate income without any hassle, REIT passive income is the answer for you.
However, there’s a specific learning curve involved when it comes to REITs. Although it sounds as easy as ABC, you cannot just jump in without knowing the ropes.
That’s why I’ve compiled everything you need in this guide to REIT passive income so that you can decide whether it’s the ultimate option for you or not.
How Does a Company Qualify for REIT Passive Income?
Not every company that owns income-generating properties can qualify as a REIT. There are certain rules and guidelines involved, and if the company does not adhere to them, it won’t be allowed to deal with real estate investors.
As an investor, you should know these basic guidelines before choosing which company you should invest in for REIT passive income.
First of all, the company should be a legit corporation complying with the IRS revenue code. Besides that, it should be equipped with a good board of directors and have more than a hundred shareholders holding their stakes.
Moreover, a company would only be considered a REIT if it has at least 75 percent of its assets in the US treasury or real estate assets, while 75 percent of its net income should come from real estate investments.
Most importantly, because REITs don’t have to pay tax, about 90% of their taxable income should go to their shareholders and investors.
The company is deemed legit enough to allow investors to pool in their money if it complies with these conditions. That’s why you should conduct thorough real estate due diligence on the company you’re planning to invest in.
Is REIT Passive Income Profitable?
Without a doubt, REITs are one of the highest paying real estate investments. This is evident from the FTSE NAREIT Equity REIT Index according to which REITs provided about 9.9% annual returns to its investors between 1990 and 2010.
This is the highest investment return rate compared to fixed income assets that only paid 7% annual returns. Additionally, REITs performed even better in recent years, providing about 11.21% in annual returns to investors between 2013 and 2016.
This means investors with diverse investment portfolios who’re looking for high-yield investments should go for REIT passive income. Even if you can’t afford your own property, all you have to do is invest in a reliable REIT and receive a hassle-free payment.
While this might sound quite attractive initially, the income comes with taxation consequences, which you should know before diving in. Here’s a list of the types of REITs you can choose from, along with the taxation details for traditional REITs, to make things easier for you.
Types of REITs
As I mentioned, REITs deal in a wide range of properties, including residential, commercial, and retail. The type of REIT you choose will influence your investment strategy and decide the amount of REIT passive income you generate every month.
Following are the types of REITs you can choose from when you decide to invest for passive income.
Retail REIT investment is easily the highest and most popular investment in the US. REIT companies own most of the shopping malls and arenas you see on an everyday basis are.
That’s why shopping malls and other retailers make up almost 24% of all REIT investments. However, before investing for REIT passive income with a company investing in retail, you should consider whether the retail market is thriving in the current financial environment.
You see, companies only make money through rental income from their tenants, and that’s what they pay their shareholders. So, you’ll need to make a thorough assessment of sale rates and cash flow in the particular retail sector to confirm that the tenants will not default on their payments.
Nevertheless, a looming disadvantage of retail REITs is that shoppers are mostly taking their business online.
This means the retail market could see a sudden shift in sales and cash flow. If the REIT has a strong portfolio and can use its retail spaces to cater to other tenants, investors might not lose their investments completely.
That’s why a thorough evaluation of the REIT itself, along with its type of investment, is crucial in all cases if you want to generate a smooth REIT passive income.
Everyone needs a space to live in, and that’s what fuels residential REITs to produce significant income for their investors.
Residential REITs own and operate different types of residential property, including apartment buildings and traditional housing. While investing in residential REITs, you should look for places that offer low affordability for homes.
For example, if you invest in a REIT that buys rental properties in the suburbs, your income will be relatively low because everyone can afford their own houses in such places.
On the contrary, if you choose REITs with their properties in major cities like New York or Los Angeles, where most people live in rental homes, you can expect considerably high income.
That’s why, if you’re planning to invest in a residential REIT for passive income, make sure you look into the vacancy rate, migration rate, job opportunities, and population growth rate of the area where your property is.
Healthcare REITs invest in the construction of hospitals, nursing homes, retirement homes, and medical centers.
With the US’s growing healthcare costs, the rental prices in this sector are likely to climb up, making it a profitable real estate investment. However, the profitability of these investments highly depends on whether the healthcare bill gets passed.
When investing with a healthcare REIT company, make sure that the company doesn’t rely entirely on the property and has other diversified options. If you choose to invest in a REIT that relies entirely on healthcare investments, check their history to see whether they have significant experience in the sector.
These REITs invest in office buildings and receive rental income from corporate tenants.
While investing in a commercial REIT, you should check the unemployment rate, economic growth rate, along overall vacancy rates to see whether your investment will bring significant profits.
A good idea is to look for commercial REITs in cities considered major job-providers in the country. These include New York, Washington DC, and Los Angeles.
All of the types of REITs mentioned above were equity REITs. This means they buy and manage the properties themselves and share the rental income they make with their investors and shareholders.
On the other hand, Mortgage REITs is a whole different story. Making up about 10% of all REIT passive income, mortgage REITs give out money to people who want to buy real estate.
Besides that, they also work by buying mortgages and securities backed by existing mortgages as well. In plain terms, this means instead of funding a company to acquire a property, you’re actually paying a company that will lend your money to someone else who wants to buy real estate.
So, while REIT passive income commonly comes through rental payments, in the case of mortgage REITs, you’ll receive interest on the loans you provide instead. Mortgage REITs also work in various sectors mentioned above, including residential, healthcare, and commercial.
Different Modes of REIT-Trading
Apart from the type of investment properties, REITs can be classified according to their trading modes. Here are the types of REITs you can choose from based on their methods of trading.
You can purchase publicly-traded REITs easily through brokerage accounts. Usually, they are traded in exchange for stocks and ETFs and are sold through proper government standards.
Publicly-traded REITs are safer options, attributing to their transparency and the liquidity of their stocks. As a REIT investor, you can make money by buying and selling REITs. This brings faster returns than if you purchased your own property and sold it for a profit.
Public Non-Traded REITs
These are registered REITs that are not available for sale from the company itself. Instead, you can only buy them through a broker who deals in non-traded REITs.
Another critical factor in non-publicly-traded REITs is that they cannot be liquidated. Since you cannot sell them publicly, you’ll have to designate the amount you invest for at least 5-10 years.
On the upside, these investments provide a high annual passive income. There are some online real estate crowdfunding sites that offer non-traded REITs for their investors.
Private REITs are unlisted projects that require high minimum investments starting from around $50000-$75000. That’s because these investments are usually restricted to accredited investors only with a net worth of approximately $1 million, excluding their personal residence.
Along with being restricted to the higher class, these REITs are difficult to value or trade. That’s because they don’t need to be registered with the SEC, unlike publicly-traded REITs.
Also, they’re not required to disclose such information, unlike government-funded REITs, so there’s a lack of transparency as well because you can’t calculate other potential risks.
How Can You Assess and REIT for Passive Income?
Now that you’ve been through the most common types of REITs that exist, along with their different trading techniques, you’re probably ready to make your investment.
If you’re not, don’t worry. Here’s my take on how to carefully assess a REIT before you invest your hard-earned money.
- REITs should provide annual dividends on your investments, combined with the appreciation amount of your capital. Look through their investors’ history to find out if they’ve provided both to previous clients.
- REITs should not lock your investment down for long periods; check whether your target company allows liquid assets or not.
- The higher your annual yields, the better your REIT passive income investment. Use information such as the funds from operation, dividends per share, and depreciation rates to identify the potential yields you’ll receive.
- Look at the level of experience your REIT has when it comes to managing properties. It is better to choose an established company.
- Apart from the REIT itself, make sure to assess its properties as well. Remember, you’re investing in the properties, and that’s where your passive income will come from.
- If you don’t want to go through the hassle of conducting thorough background research, start by buying mutual funds or investing with online crowdfunding platforms to reduce the risk factor.
Tax on REIT Income
After going through all the salient aspects of investing in REITs for passive income you probably know by now that REITs don’t pay taxes on their property gains. However, if you’re asking, is REIT income taxable for you, then the answer is yes.
Whether you receive your REIT passive income in the form of returns or capital gain, the taxation calculation will be different for each amount.
You see, if a REIT were just another company, it would be required to pay tax on its earnings. However, since it is a trust, it is exempted from taxation. But, on the condition that the company pays 90% of its taxable income to its investors.
As an investor, a large percentage of the dividend you receive will be considered your regular income and taxed at 3%, just like your income from other streams.
Occasionally, the REIT will tell you if the dividend you receive has a percentage of capital gain or loss. In this case, you’ll have to pay around 20% of taxes on your gains depending on your net income that year.
Pros and Cons of REIT Passive Income
After reviewing all the critical factors about REIT passive income, it is evident that the prospect is indeed a profitable investment for accredited and non-accredited investors alike.
Here, I’ve provided an exact representation of the investment opportunity by listing down its pros and cons at a glance.
- Regular dividends
- High passive income
- Liquid assets
- Low-risk factor and volatility
- non -traded and private REITs are illiquid
- REITs are some of the most indebted companies in the market
- Low chances for capital appreciation
- Investors have to pay taxes from their REIT passive income
- Non-traded and private REITs have high minimum investment thresholds
Investing in REITs for Passive Income Online
After going through the pros and cons of REIT passive income, some of you might be thinking the option isn’t for you. Whether it’s because of the high minimum investment, the risk factor, or the lack of experience, real estate crowdfunding platforms online can solve the problem for you.
These platforms acquire private REITs and make them accessible to both accredited and non-accredited investors. The platforms do all the background research and portfolio diversification for you. So, all you have to do is invest your money and reap the benefits.
However, choosing the right online REIT platform can become quite tricky. Especially if you’re already grasping the concept of REIT investment.
Don’t worry. I’ve picked out the best options in terms of minimum investments, high returns, customer options, and other services to make the choice easy for you.
Fundrise is a popular crowdfunding platform based in the US. With investments worth more than $4 billion, the platform manages assets for more than 130,000 investors from across the country.
You can create an account on the platform, starting with just $1000 as an investment. After that, you can upgrade to their Advance and Premium subscriptions when you intend to diversify your portfolio.
The platform offers different investment strategies and advanced returns at each level, so there’s plenty of room for personal growth. Initially, you’ll receive around 8.7% returns every month, from which the site will charge about 1% as a service fee.
Most importantly, you can join even if you’re not an accredited investor. Also, if you’re unsure about continuing on the platform, you can quit within 90 days and get your investment back.
RealtyMogul is another popular option for those who want to generate REIT passive income online. What makes this platform stands out amongst its contemporaries is its thorough due diligence upon acquiring properties.
The platform only invests in thoroughly vetted properties that are sure to bring considerable returns for their investors. Today, the website is managing investments and properties for more than 197000 members.
You can sign up with as little as $5000 and earn anywhere from 4%-8% in annual returns. Besides that, you can choose your own objectives. Whether you’re aiming for passive income, diversification, or growth, the platform will help you out.
RealtyMogul charges 1.5% from your dividends as service charges. Furthermore, you can choose to auto-invest your dividends as well and build a strong portfolio for yourself.
M1Finance is an accessible online stock exchange platform where you can create an account to buy ETFs and mutual funds and subsequently generate REIT passive income.
The platform makes sure your money is invested in the right places while giving you complete control over your investment at the same time.
To start on M1Finance, you’ll have to invest at least $10,000 initially. After that, the platform will provide dividends from any of the ETFs you choose to invest in.
Moreover, once your dividend balance reaches $10, the platform starts reinvesting your money.
This increases your passive income every month and diversifies your portfolio. If you’re a newbie in the investment world, you can request a free consultation whenever you want.
RobinHood is another online investment portal where you can buy mutual funds, ETFs, and private REITs for a passive income. The most attractive aspect of RobinHood is that you can open an account for free.
However, if you want to access their Gold services, including reports on stocks and market data, you’ll have to pay a $5 monthly service fee. But, you can also try out their Gold level services for thirty days using their free trial and see whether it’s worth your money.
Once you create an account, you can use the platform to invest in highly profitable stocks. Such as private REITs and even cryptocurrency and receive high dividends every month. Besides that, the platform offers an accessible mobile app so you can check your investment details on the go.
The best part is, unless you subscribe to their Gold version, they won’t charge any commission from your monthly returns on investment. So, you’ll receive a passive income without spending anything other than your investment amount.
DiversyFund is another well-known real estate crowdfunding platform that lets investors like you find high-quality REITs for passive income. You can start investing in DiversyFund with as little as $500 and earn around 11%-18% returned depending on your investment.
Another highlight of DiversyFund is that it does not charge any service fee from its users. However, it does withdraw some of your dividends as a developer fee.
The website will buy, manage, and develop your portfolio of properties themselves so that you can earn hassle-free passive income. Besides that, it provides helpful resources and updates for new investors.
Does REIT Passive Income Make Sense?
That concludes my guide to REIT passive income. Mainly, REITs are profitable for non-accredited investors to step into the investment world. Similarly, they’re appealing for accredited investors to diversify their portfolios and increase their income.
To generate a passive income through REITs, you don’t have to manage or maintain your properties yourself. There are many types of REITs you can invest in, including residential, commercial, and retail REITs.
If you’re planning to invest in a REIT for passive income, make sure to choose one with ample experience and investments in high-quality properties. To reduce the hassle, you can go for online crowdfunding platforms that require minimum investment amounts to get started.
- Real Estate Crowdfunding Guide: What is it & How to Invest
- 32 Best Passive Income Ideas
- 10 Important Pros and Cons of Real Estate Investing