Choosing The Best Real Estate Investment Between REITs And Rental Property
Investing in real estate is rewarding in the long term because it can be a source of a reliable stream of cash with little maintenance as an investor. It is, however, challenging when it comes to choosing the best real estate investment strategy when you consider REITs and property rentals because each option has its advantages and disadvantages. As an investor, you will have to consider the merits and demerits of each option, among other factors, before making a decision.
Understanding direct property investment and REITs
Direct property investment refers to is a lucrative opportunity where you will purchase a property or invest in one like a residential complex or commercial shopping center. Direct ownership offers an opportunity for direct ownership, monthly cash flow, and you become a landlord. Traditionally most people have been investing directly in real estate by financing the development through a loan.
However, most recently real estate investment trusts REITs are becoming popular. Investors can have the chance of investing in a large portfolio of real estate properties that offer the same or even more benefits as direct investment. With this option, investors will get to own part of a property and receive benefits of higher liquidity and less responsibility.
REITs are typically categorized depending on investor access. They are categorized as private REITs, publicly-traded REITs or public non-trade REITs. Usually, private REITs are characterized by high investment minimums, which makes them out of reach for most individual investors. Therefore the most appropriate REIT for individual investors is the publicly-traded REITs and the publicly non-traded REITs. For inexperienced investors in real estate who are seeking to diversify their portfolios, they should consider REITs because there are minimal risks associated.
Advantages of REITs
Tax-free income: In Singapore, REITs pay dividends that are tax-free, which means you will not be paying any tax on the income you receive from REITs. For instance, if you are paid S$10,000 in dividends annually, you will pocket the whole amount without paying tax unlike in a rental income where the amount will be subject to income tax at normal rates.
Low investment minimums: if you want to invest in real estate, then REITs are the most accessible way to venture into real estate investment at a low cost. However, investment minimums vary depending on the type of REIT. From as little as $1,000, you can own a share of a publicly-traded REITs or publicly non-traded REITs.
Liquidity: REITs usually offer more liquidity than rental properties because a rental property will require the investor to commit a lot of capital to a single property. Whereas in REITs, you can buy shares and sell them daily, monthly, or even quarterly basis.
Diversification: REITs offer you a chance to diversify your ownership, unlike in rental properties where you will need to have a range of properties to achieve the same diversification as in REITs. You get a chance to invest in hundreds of properties through REITs, and thus your income flow will not be dependent on o one single property; thus, there is an assurance of steady flow of income.
Drawbacks of REITs
Volatility: since the publicly traded REITS are offered in the stock market, they react to market fluctuations with a fall or rise of the stock market even when the price of the property remains unchanged. The changes affect share value for the publicly-traded REITs, and as for non-traded REITS, they only respond to changes in the underlying property.
Less autonomy: you have less control over your investment in REITs, unlike in rentals where you have the freedom and flexibility of taking economic control. REIT investors do not have a say in the operation of the investment for them; they wait for returns.
Advantages of rental property investment
A regular flow of cash: when you invest directly in a rental property, and it goes according to plan, it can be a source of the regular flow of monthly income from rent. You have peace of mind with tenants, unlike the public market investments because rent is agreed upon at the start of each month.
Asset appreciation: Besides the monthly income, your rental property can earn cash through appreciation. As the owner, you will get direct benefits from your property in the form of equity, and if the value of the property increases, you will get a profit upon the sale of the property. If your property increases in value by 10% and you invested $100,000, you would potentially earn $10,000 unlike in a REIT where you own part of the property and your $1,000 investment with a 10% return will bring $100.
Tax breaks: With direct real estate investment, you can benefit from tax breaks by using strategies like writing off depreciation to taking a housing loan tax deduction. You can deduct expenses such as legal fees, insurance premiums and maintenance costs from taxes
Disadvantages of direct investment in rental property
Large capital needed upfront: you are required to have a significant amount of capital for you to own a rental property. You will need to secure a mortgage to make that huge down payment required to own the property. Commercial properties will need a significant amount of capital compared to buying a home. Unless you buy the property with outright cash, then you will need to secure a mortgage and have to pay high-interest rates and monthly installments that can affect monthly earnings.
More expertise needed: before investing in real estate, you will need to assess how viable the investment will be. You have to seek real estate and financial expertise to determine the monthly rental income, expected occupancy rate, operational costs, maintenance costs, and the time needed to prepare the property for occupancy. To be successful, you will have to hire a property manager, accountant, lawyer, and maintenance crew, which means additional costs.
Bottom line: Investment in real estate is a massive opportunity, but you have to choose wisely the route you want to take in your investment. If you are looking for control of your investment, then you can consider rental property investment. But the REITs pros outweigh the rental property investment because you can diversify your investment, earn tax-free dividends. Above all you don’t need huge sums of capital to invest in REITs.