Syndications vs. REITs vs. Funds
Today, there are several options for investors to consider when looking to diversify their investment portfolios or purchase real estate assets. Options include direct individual investment, real estate syndications, real estate investment trusts (REITs), or real estate investment funds. All of these options have advantages and disadvantages and this post will examine how syndications, REITs and investment funds work and how they can benefit different strategies.
Real Estate Syndication - A real estate syndication is a group of two or more investors or investment companies coming together for a common goal—to raise capital for purchasing real estate or building a new property. The advantage of pooling your money with other investors is that you can invest in a much bigger, more lucrative deal that could otherwise be too expensive for an individual investor. Additionally, unlike a REIT (Real Estate Investment Trust), the asset is already identified in a syndication, and the investors raise money for that specific opportunity. Structurally speaking, a Real estate syndication is a legal transaction between two parties—the sponsor/syndicator/general partner (GP) and the investors/limited partners (LP). Legally, a syndicate can be structured as a Limited Partnership (LP) or Limited Liability Company (LLC). A sponsor’s role is to scout out a property, seek funding, and manage day-to-day operations while the investors provide the financial support. Additionally, investors are locked in for the agreed term, and the sponsor decides on when to sell or refinance the property. Some of the benefits when investing in a real estate syndication are:
This strategy invests in a physical real estate asset.
It offers access to large, lucrative investment opportunities with property management services.
It also offers several tax benefits like 1031 exchange, pass-through deductions, and asset depreciation.
Syndication allows you to diversify your portfolio as you’re able to invest a small sum at a time into a single project.
Real Estate Investment Trusts (REITs) - REITs, or real estate investment trusts, are companies that own or finance income-producing real estate across a range of property sectors. These real estate companies have to meet a number of requirements to qualify as REITs. Most REITs trade on major stock exchanges, and they offer a number of benefits to investors. A real estate investment trust (“REIT”) is a company that owns, operates or finances income-producing real estate. REITs provide an investment opportunity, like a mutual fund, that makes it possible for everyday Americans—not just Wall Street, banks, and hedge funds—to benefit from valuable real estate, present the opportunity to access dividend-based income and total returns, and help communities grow, thrive, and revitalize. There are three main types of REITs:
Equity REITs own and operate income-producing real estate.
Mortgage REITs lend money to real estate owners and operators either directly through mortgages and loans, or indirectly by acquiring mortgage-backed securities.
Hybrid REITs are a combination of equity and mortgage REITs.
REITs allow anyone to invest in portfolios of real estate assets the same way they invest in other industries – through the purchase of individual company stock or through a mutual fund or exchange traded fund (ETF). The stockholders of a REIT earn a share of the income produced – without having to go out and buy, manage or finance property. REITs invest in a wide scope of real estate property types, including offices, apartment buildings, warehouses, retail centers, medical facilities, data centers, cell towers, infrastructure, and hotels. Most REITs focus on a particular property type, but some hold multiple types of properties in their portfolios. Some of the benefits of investing in REITs are:
REITs operate along a straightforward and easily understandable business model: by leasing space and collecting rent on its real estate, the company generates income which is then paid out to shareholders in the form of dividends.
REITs must pay out at least 90% of their taxable income to shareholders.
REITs historically have delivered competitive total returns, based on high, steady dividend income and long-term capital appreciation.
Real Estate Funds – Real estate funds operate similar to that of mutual funds. A mutual fund is a single collection of several different investments. For example, a fund may own a mix of stocks and bonds, or track the stocks in a particular index, such as the S&P 500 or the Dow Jones industrial average. A real estate fund works the same, except it only invests in real estate. A real estate fund may own individual commercial properties, for instance, or invest in a collection of properties such as shopping centers and/or hotels. A real estate fund can also invest in real estate investment trusts.
An important aspect to note is that real estate funds can be open-end or closed-end. An open-end fund allows you to enter or leave the fund as long as it remains active. A closed-end fund typically has one entry point and one exit point; you have to invest within a certain window and, once invested, cannot leave the fund until it’s run through its natural life cycle.
Like any other mutual fund, real estate funds can be passively or actively managed. Passive investment strategies typically try to mimic the performance of an underlying index. With an actively managed investment strategy, the fund manager oversees the buying and selling of the underlying assets within the fund. Instead of trying to match the performance of an underlying index, actively managed funds attempt to beat it.
Real estate investments in general are considered solid additions to any portfolio. But real estate funds specifically offer several unique advantages.
Real estate adds a new dimension of diversification to stock and bond heavy portfolios.
Real estate funds themselves can also be highly diversified investing in assets across various locations and a variety of property types.
Real estate performance and returns aren’t dictated by the direction stock prices move therefore real estate funds can perform even when stock prices fall.
While demand for real estate remains high during inflationary periods — and consumers aren’t in a position to buy — real estate investors can benefit from rising rents
Every investment presents unique risks and opportunities, and ultimately it comes down to what type of returns you are seeking, your liquidity requirements and your risk profile.
