Many hopeful real estate investors have the same question: Is it a smarter move to buy property directly or to buy shares of a real estate investment trust (REIT)? As the co-founder and CEO of a single family rental investment marketplace — and someone who has formerly run a publicly traded REIT — I'm often asked this question because of my intimate knowledge of both sides of the coin.
This is the second half of a two-part series that explores the benefits of investing in brick and mortar real estate versus a publicly traded real estate investment trust, commonly referred to as a REIT. If you missed Part I and the goals for which a rental property is the more suitable choice, read it here. In this section, we’ll focus on categories where REITs come out on top.
Benefits of investing in a REIT
Immediate liquidity is perhaps the single greatest advantage of owning shares in a REIT. Like any other stock, it can be sold through your brokerage account at a market-clearing price at relatively low cost. Depending on the type of assets, selling real estate that you own directly takes more time and can have much higher transaction costs if you sell through traditional brokerage channels.
Low Minimum Investment
While you can buy a REIT share for $10 or less, it of course takes more capital to own properties directly. For example, in order to qualify for attractive financing to purchase investment homes, you typically need to put down at least 20% of the value of the home. Additionally, if you are concerned about the potential for expenses to be higher than your revenues in a particular month due to non-recurring expenses or maintenance, it is a good practice to maintain a contingency “slush fund" of 1-2% of the total purchase price for general repairs and times when the property may be between tenants. If you are looking to get some exposure to the real estate industry and want to dip your toe in the water, REITs are a great way to get started.
REITs offer geographic and asset-level diversification. Most specialize in a specific type of property, which means you can own shares in office buildings, single-family rental homes, apartments, hotels, self-storage units and more. As a direct investor, achieving that level of diversification is challenging without substantial capital upfront. Some investors mitigate this risk by purchasing multiple properties and/or buying in markets where they do not reside in order to ensure all of their eggs are not in one basket.
REITs require no oversight on your part since management is outsourced to professionals and field experts. While some investors crave more control and direct exposure to hard assets — and the potentially outsized returns that can be generated with this strategy — others will find the passive nature of investing in REITs or other private real estate funds more attractive if they are looking for a complete hands-off solution.
Rather than ask “which is best?” start by asking “which is best for me?”
Whether it’s direct investment, buying shares in a REIT, house hacking, house flipping or even working for sweat equity, there are many paths to becoming a real estate investor. All of them have pros and cons and varying degrees of risk and reward. Rather than ask “which is best?” start by asking “which is best for me?” I find having a combination of direct investment and REIT ownership works well as a strategy to get balanced exposure across geographies and property types.
If you're interested in learning more about buying a rental investment property, see how Roofstock makes it easy to buy and own in strong rental markets across the U.S.