Passive commercial real estate opportunities remove the added work of tax documentation, expense tracking, asset management, property maintenance, or tenant interactions.
Two common passive real estate investment opportunities are REITs and real estate syndications.
But which type of passive investment is the right choice for you?
What is a REIT?
When you invest in a REIT, you’re buying stock in a company that invests in commercial real estate. So, most people naturally figure, if you invest in an apartment REIT, it’s the same as investing directly in an apartment building.
Here are the 7 biggest differences between REITs and real estate syndications:
Difference #1: Number of Assets
A REIT is a company that holds a portfolio of properties across multiple markets in an asset class, which could mean great diversification for investors. Separate REITs are available for apartment buildings, shopping malls, office buildings, elderly care, etc.
With real estate syndications, you invest in a single property in a single market. You know the exact location, the number of units, the financials specific to that property, and the business plan for your investment.
Difference #2: Ownership
When investing in a REIT, you purchase shares in the company that owns the real estate assets.
When you invest in a real estate syndication, you and others contribute directly to purchasing a specific property through the entity (usually an LLC) that holds the asset.
Difference #3: Access to Invest
Most REITs are listed on major stock exchanges, and you may invest in them directly, through mutual funds, or via exchange-traded funds quickly and easily online.
Real estate syndications, on the other hand, are often under an SEC regulation that disallows public advertising, which makes them difficult to find without knowing the sponsor or other passive investors. Another hurdle is that many syndications are only open to accredited investors.
Even once you have obtained a connection, become accredited, and found a deal, you should allow several weeks to review the investment opportunity, sign the legal documents, and send in your funds.
Difference #4: Investment Minimums
When you invest in a REIT, you purchase shares on the public exchange, some of which can be just a few dollars. Thus, the monetary barrier to entry is very low.
Alternatively, syndications have higher minimum investments, often $100,000 or more, and usually, only take accredited investors. Though they can manage to allow some non-accredited investors on certain deals.
Real estate syndication investments require significantly higher capital than REITs.
Difference #5: Liquidity
At any time, you can buy or sell shares of your REIT, and your money is liquid.
Real estate syndications, however, are accompanied by a business plan that often defines holding the asset for a certain amount of time (often 5 years or more), during which your money is locked in.
Difference #6: Tax Benefits
One of the biggest benefits of investing in real estate syndications versus REITs is tax savings. When you invest directly in a property (real estate syndications included), you receive a variety of tax deductions, the main benefit being depreciation (i.e., writing off the value of an asset over time).
Oftentimes, the depreciation benefits surpass the cash flow. So, you may show a loss on paper but have positive cash flow. Those paper losses can offset your other income, like that from an employer.
When you invest in a REIT, because you’re investing in the company and not directly in the real estate, you do get depreciation benefits. Still, those are factored in prior to dividend payouts. There are no tax breaks on top of that, and you can’t use that depreciation to offset any of your other income.
Unfortunately, dividends are taxed as ordinary income, which can contribute to a larger rather than smaller tax bill.
Difference #7: Returns
While returns for any real estate investment can vary wildly, the historical data over the last forty years reflects an average of 12.87 percent per year total returns for exchange-traded U.S. equity REITs. By comparison, stocks averaged 11.64 percent per year over that same period.
This means, on average, if you invested $100,000 in a REIT, you could expect somewhere around $12,870 per year in dividends, which is a good ROI.
Between the cash flow and the profits from the asset sale, real estate syndications can offer around 20 percent average annual returns, and this doesn’t include the tax benefits of owning real estate.
As an example, a $100,000 syndication deal with a 5-year hold period and a 20 percent average annual return may make $20,000 per year for 5 years, or $100,000 (this takes into account both cash flow and profits from the sale), which means your money DOUBLES over the course of those five years.
REITs or Real Estate Syndication: The Decision
It may be challenging to decide which one of these passive real estate investment opportunities is right for you since they both have many great benefits. They both can help you create a diversified investment portfolio and bring in some passive income but remember, there is no one-size-fits-all investment, so you must decide which is best for you.
If you have more capital available, want to have direct ownership, want to be able to contact sponsors directly, and receive more tax benefits, a real estate syndication may be the best fit for you.
Weigh the options of these passive real estate opportunities, and decide which is best for you. There is no right or wrong decision between these two passive real estate investments, and you may decide to choose both to diversify your investment portfolio even further.
Either way, when investing in commercial real estate, you are using diversification, tangible assets, and steady growth to preserve and expand your wealth passively.