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Fresh alternative asset insights and the latest news on real estate and private equity investing.

REIT Investing: Public REITs vs. Private REITs

Real Estate Investment Trust spelled out on pavement

  |  By Chris Shanahan, CISP®

When many investors hear of REITs – Real Estate Investment Trusts – they probably think of large companies like Boston Properties or General Growth Properties that are registered with US securities regulators and are publicly traded on a stock exchange. But REITs are a large investment category that also includes public non-traded REITs and private REITs*.

At the high level, a REIT is an investment company that owns and manages real estate and real estate-related assets. REITs pool capital from individual investors, giving those investors the opportunity to earn a share of the income produced through commercial or residential real estate ownership without needing to purchase property directly. REITs are required to pay out at least 90% of their taxable income to shareholders in the form of dividends.

Retirement investors who use a self-directed IRA may own public exchange-traded REITs, public non-traded REITs and private REITs in an IRA. But what are the differences among them? This chart highlights some of the critical differences between public and private REITs:

*PENSCO performs the duties of a custodian and does not recommend or advise on investments.

REIT Investing: Public vs. Private REITs

 

Public Exchange-Traded REITs

       Public Non-Traded REITs

               Private REITs

Listed on a national exchange?

Yes

No

No

Registered with the SEC?

Yes

Yes

Generally exempt from SEC registration

Secondary market and liquidity?

Yes. Because these REITS are exchange traded, it is generally easy for investors to buy and sell.

Very limited. It may be possible to redeem a portion of shares each year, but redemption price could be below purchase price.

Extremely limited. Funds tend to have a 2- to 3-year lockup period and redemptions may be permitted after that. But private REITs are effectively private placements, and many do not offer redemptions except in unusual circumstances, such as the death of an investor if beneficiaries want to redeem.

What are the front-end fees?

Front-end underwriting fees in the form of a discount may be 7% or more of the offering proceeds. Investors who buy shares in the open market pay a brokerage commission.

 

Front-end fees that can be as much as 15% of the per share price. Those fees include selling compensation and expenses, which cannot exceed 10%, and additional offering and organizational costs.

 

Front-end fees vary from fund to fund. Upfront fees for private REITs can be anywhere from 10% to 15%.

Anticipated source of return?

 

Investors typically receive capital appreciation based on prices at which the REIT’s shares trade on an exchange. Shareholders also typically receive dividends.

Dividends are typically paid to investors over a period of years. However, dividends are not guaranteed and can be suspended or halted. Once investors liquidate their shares, the return of capital depends on the value of the assets and may be more or less than the original investment.

Funds often remain locked up until there is a corporate action, such as a redemption offer, and there may be no periodic distributions. Once investors liquidate, the return on capital depends on the value of the assets but private REITs tend to pay out more than their public counterparts.

Sources: FINRA, National Real Estate Investor

One of the most significant differences among the three types of REITs is liquidity. It can be relatively easy to buy or sell an exchange-traded REIT. However, non-traded REITs and private REITs do not trade on an exchange. This means they are illiquid and cannot be bought or sold easily, and they often require holding periods of years instead of hours or days.

At PENSCO, where we custody self-directed IRA assets, many of our clients invest in private REITs. Private REITs can typically only be sold to institutional investors or accredited investors, and they are structured as private placements. (PENSCO does not assess clients’ accredited investor status. It is the responsibility of the issuer/sponsor.) Private REITs can provide investors an opportunity to diversify a portion of their portfolio away from the daily fluctuations of the stock market, and they can potentially deliver higher dividends and returns than a public REIT.

Additionally, extended holding periods for these types of REITs match up well with retirement funds, which also often require longer holding periods.

As with any investment, conducting thorough due diligence is critical. If you are considering REIT investing, here are a few questions to ask before making your investment decision:

  • What is the experience and expertise of the REIT management team?
  • How much will the fund disclose about the types and amounts of investments the REIT makes?
  • How can you expect to be updated on the performance of the REIT?
  • Does the REIT fit your desired time horizon? Does it meet your portfolio needs?
  • What are the financial terms of the REIT, including front-end fees?
  • What are the potential exit strategies?

To read FINRA’s Investor Alert on Public Non-Traded REITs, click here.

This Blog does not provide investment, tax, or legal advice nor does it evaluate, recommend or endorse any advisory firm or investment vehicle. Investments are not FDIC insured and are subject to risk, including the loss of principal.

PENSCO Trust Company performs the duties of an independent custodian of assets for self-directed individual and business retirement accounts and does not provide investment advice, sell investments or offer any tax or legal advice. Clients or potential clients are advised to perform their own due diligence in choosing any investment opportunity as well as selecting any professional to assist them with an investment opportunity.  Alternative investments are not FDIC insured and are subject to risk, including loss of principal.  PENSCO is not affiliated with any financial professional, investment, investment sponsor, or investment, tax or legal advisor.

Editor’s Note: This is an updated version of a post we originally published in May 2016. We welcome new comments and questions below.

 

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