Real Estate Investment Trust
A Real Estate Investment Trust or REIT is an entity formed wholly for business purposes. A REIT is firm that owns, operates, and manages real estate properties. It allows the investors to buy shares in large commercial building. Since it is a trust therefore the investors own shares in the trust and not in the real estate properties. The main benefit of investing in REITs is that even the person with small amount can invest in real estate and buys the equivalent shares. These are considered as ‘mutual funds’ of real estate investments as these provide a regular flow of income. Unlike TIC arrangements, there is no limitation on the number of investors. The investors are allowed to buy the shares in REITS with the help of real estate agents only.
Types of REITS
The REITs are mainly of two types:
- Equity REITs – An Equity REIT owns and invests in real estate properties. The majority of REITs are Equity REITs. Equity REITs generate revenue through rents. Equity REITs are responsible for purchasing, managing, renovating, and selling real estate properties.
- Mortgage REITs – Mortgage REITs are entirely different from Equity REITs. Unlike Equity REITs, Mortgage REITs lend money to real estate developers or investors. Instead of investing in real estate properties, Mortgage REITs lend money on mortgages. The primary source of income of Mortgage REITs is the interests they earn on mortgage loans.
The difference between Equity and Mortgage REITs can be understood from the below discussed example. Suppose, a company named ‘Excel’ has qualified as a REIT. Now, it purchases an office building with the funds generated from its investors and then rent it out. Since, the company Excel owns and manages this real estate property, it is an Equity REIT. On the other hand, suppose a company named ‘Zeta’ qualifies as a REIT. Instead of investing in real estate properties, it decides to lend money to real estate investors. In this case, the company Zeta will make money in the form of interest it would earn on loan. Therefore it’s a Mortgage REIT.
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Necessities for forming a REIT
- In order to qualify as a REIT, a company must be taxable as a corporation.
- A company must invest 75% of its assets in real estate, cash, or treasuries.
- 75% of a company’s net income must come from rents or through selling real estate properties.
- A company must distribute 90% of its income as dividends among its shareholders.
- A company must be regulated by the Board of Directors or Trustees.
- Not more than 50% of a company’s shares should be held by its five or fewer shareholders.
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