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Your Complete Guide To Residential Real Estate Investment Trusts (REITs)

Dan Rafter6-minute read

June 25, 2021

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Want to invest in residential real estate but worry that you don’t have enough cash to purchase a single-family home or multifamily property or enough savings to afford the monthly mortgage payments that come with financing one of these residences?

Or maybe you don’t want to answer calls at 2 a.m. from tenants upset that the furnace in the home they are renting isn’t working. Maybe you aren’t handy enough to repair and renovate an aging property.

Fortunately, you can invest in single-family homes or apartment properties without worrying about these challenges by buying into real estate investment trusts, otherwise known as REITs.

What Is A Residential REIT?

A real estate investment trust (REIT) gives people the chance to invest in real estate even if they don’t have enough cash to buy a property on their own. Residential REITs also give investors the chance to buy into real estate without having to take out a large mortgage loan. You might not have enough money to buy an industrial warehouse or office building. But you can invest in a REIT.

REITs are investment vehicles made up of financial contributions from several investors. Each of these investors contributes a certain amount of money to the REIT. The REIT then uses this money to purchase real estate. This gives investors with less cash or savings the opportunity to invest in properties that are normally out of their financial reach.

A residential REIT differs from a standard REIT because it is only used to purchase residential properties. The properties that a residential REIT might purchase include single-family homes, student housing, apartment buildings, manufactured housing, condo buildings and townhomes.

Investors make money on REITs in two ways: First, residential REITs make dividend payments to investors on a regular basis. The size of these payments, and the timing of them, will depend on the performance of the REIT and the payment schedule set by the REIT. Investors also make money by holding onto their REITs and selling them after they have increased in value. Of course, there is no guarantee, as with any investment, that a specific REIT will increase in value.

Public residential REITs are traded on the New York Stock Exchange, and are fairly simple to invest in. Investing in REITs can help diversify your investments and provide financial protection in case your investments in stocks, bonds and mutual funds suffer. Your investment in a REIT might rise – but is not guaranteed to – when some of your other investments see their value fall.

Residential REIT ETFs

Exchanged-traded funds, more commonly known as ETFs, are securities made up of different stocks and bonds that can be purchased or sold on a stock exchange, much like any other type of stock.

A residential REIT ETF is a REIT focusing on residential properties. REIT ETFs are attractive because they include several individual REITs in them. They’re a bit like mutual funds. If you invest your dollars in a REIT ETF, you are buying into several REITs and not just one residential REIT.

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Pros And Cons Of Investing In Residential REITs

As with any investment, there are both positives and negatives associated with investing in residential REITs.

Pros

Diversification: It makes sense to diversify your portfolio of investments. Investing in residential REITs is one way to do this. Maybe your investments in the stock market are slumping. But real estate might be performing well. If you’ve invested in a residential REIT, at least a portion of your investment portfolio will be on the rise. Diversifying your portfolio protects you against the normal ups and downs of the economy.

Recession resistance: Residential REITs are one of the more recession-resistant investment vehicles. People still need homes in which to live even if the economy is in a recession. They still need apartments to rent even if unemployment is rising. Because of this, the value of residential REITs often stays solid or even increases during economic slowdowns. Again, though, as with all investments, there is no guarantee that the value of a residential REIT will increase.

Dividend payments: REITs are required by federal law to pay out 90% of their taxable income to shareholders. Because of this, their dividend payouts are often higher than what investors receive when they invest their dollars in stocks.

Cons

Tax drawbacks: REIT dividend payments are rarely considered qualified dividends by the IRS. This means that these dividends are taxed at a higher rate than the dividends paid out by other investment vehicles. This could leave you with a higher tax bill.

Interest rate fluctuations: The performance of REITs often suffers when interest rates rise. For instance, if the Federal Reserve raises interest rates, the value of REITs could tumble.

Rising property taxes: States have the power to increase property taxes, a tool they often turn to when they need more revenue for their budgets. When property taxes rise on the properties that a residential REIT has invested in, the earnings on these REITs will fall.

Residential REITs List: Biggest Companies To Be Aware Of

If you are interested in investing in a residential REIT, you have plenty of options. Several major companies offer their own residential REITs.

Armour Residential REIT Inc. (ARR)

Based in Maryland, ARMOUR Residential REIT was incorporated in 2008. This REIT invests only in residential mortgage-backed securities issued or guaranteed by U.S. government-sponsored entities such as Fannie Mae, Freddie Mac or Ginnie Mae.

Avalonbay Communities Inc. (AVB)

AvalonBay Communities develops, redevelops, buys and manages apartment homes in some of the bigger markets across the United States.

Equity Residential (EQR)

Equity Residential is one of the bigger apartment-based residential REITs in the United States. This REIT is currently buying apartments in Boston, New York, Washington DC, Seattle, the San Francisco Bay area and Los Angeles.

Apartment Investment And Management Company (AIV)

Also known as Aimco, Apartment Investment and Management Company develops, redevelops and invests in apartment communities across the United States. Aimco focuses on long-term value, so it might take time for investments offered by this company to grow in value. Aimco also invests in office and retail assets.

American Homes 4 Rent (AMH)

Prefer to invest in single-family homes? American Homes 4 Rent is a Maryland-based REIT that buys, develops, renovates, leases and operates single-family homes as rental properties. As of the end of 2020, American Homes 4 Rent owned 53,584 single-family properties in 22 states.

Essex

Essex is a residential REIT that specializes in West Coast-based apartment communities. This REIT acquires, develops, redevelops and manages multifamily properties, targeting what Essex calls "supply constrained" markets.

When Is The Right Time To Invest In Residential REITs?

The best time to invest in residential REITs is when the housing market is performing well. Check housing prices and apartment rents in your area. Are they increasing? Then residential REITs will generally perform well.

You can also look at the demand for housing in cities across the country. When the inventory of available homes is low or when vacancies in apartment buildings are falling, this again is a good market in which to invest in a residential REIT.

Finally, look at mortgage interest rates. If they are low, residential REITs will enjoy a stronger performance. If they are high or are rising, the financial performance of a residential REIT might take a hit.

Remember, though, investing in residential REITs is not a short-term financial move. You’ll generally have to hold onto your REIT investment for several years for it to rise in value enough to generate a solid profit. While the market might not be great for residential REITs when you initially invest in them, it might become far stronger long before you decide to sell.

How To Invest In Residential REITs

  • Research: Every investment requires research, whether you are sinking your dollars into stocks, mutual funds, bonds or a residential REIT. Before investing in a REIT, research the company behind it. How long has that company been in business? What returns have the REIT generated in the past? Does the company have experience with residential real estate or is it just entering the market?
  • Open a brokerage account: To start investing in REITs, you'll first open a brokerage account. You'll transfer money into and out of this account, much like you would with a savings or checking account. Brokerage accounts, though, give you access to the stock market and other investments, including REITs.
  • Buy into an individual REIT or invest in a REIT ETF: According to the Nariet, a trade association representing REITs, about 145 million U.S. residents are invested in REITs through their retirement savings and other financial funds. These investors purchased REITs through a REIT ETF, a fund that includes several different REITs inside it. When you're investing in REITs, you can invest your dollars directly with an individual REIT or spread them out among many REITs through a REIT ETF.
  • Work with a professional: You might consider working with a financial planner or investment advisor when selecting REITs. These financial professionals can help you determine which REITs make the most sense for you, whether you are looking for a shorter-term investment or you plan on holding onto your REIT investments until retirement.

The Bottom Line

REITs give you the opportunity to invest in real estate without spending the big dollars necessary to purchase offices, warehouses, apartment buildings or single-family homes. They also let you skip out on managing properties or acting as a landlord. And if you’re focused solely on residential real estate, a residential REIT can make buying into manufactured homes, apartment buildings and single-family homes a fairly simple process. Check out our online resource center to learn more about investing in real estate.

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Dan Rafter

Dan Rafter has been writing about personal finance for more than 15 years. He's written for publications ranging from the Chicago Tribune and Washington Post to Wise Bread, RocketMortgage.com and RocketHQ.com.