Penny Stock REITs

Most REIT investors are primarily seeking high dividend yields. They typically aren’t seeking price appreciation. This is because growth companies generally do not pay high dividends. Instead, they use their cash to invest back into the company and make it grow. Some REITs do offer investors measurable price appreciation, that is not their main purpose.

Congress created real estate investment trusts in 1960 as a way for individual investors to own equity (stocks) in large real estate companies. By complying with certain IRS requirements, REITs do not have to pay corporate income tax.

IRS Requirements to Be Classified as a REIT

• Return at least 90% of their taxable income in the form of dividends each year.
• Invest at least 75% of their total assets in real estate or cash.
• Receive at least 75% of their gross income from real property. This can be in the form of rents, mortgage interest, or the sale of real property.
• Have a minimum of 100 shareholders after the first year of existence.
• Have no more than 50% of shares held by five or fewer individuals during the last half of the taxable year.

The Three Most Common REITs

1. Equity REITs. These companies own real property and act as the landlord. They maintain the building and grounds, collect rent, and perform all other management tasks related to owning real estate.

2. Mortgage REITs. This type of REIT does not own the underlying property. Instead, it just owns the mortgages on the properties. They often buy mortgages from the original lenders and collect the monthly mortgage payments. Mortgage REITs are riskier than their equity REITs. Because of this extra risk, they often pay higher dividends.

3. Hybrid REITs. Hybrids are a combination of both equity and mortgage REITs. They own and operate real estate as well as the mortgages that finance them.

Advantages of REITs

• Because REITs are required to pay 90% of their annual income as shareholder dividends, they consistently offer some of the highest dividend yields in the stock market. That makes them a favorite among investors looking for a steady stream of income. Some REITs pay dividends monthly, while others may pay dividends quarterly, semi-annually, or annually.

• Publicly traded REITs are far easier to buy and sell than actually buying, managing, and selling commercial properties.

• REITs tend to be less volatile than traditional stocks, but no investment is immune to volatility, and REITs rise and fall, perhaps more slowly, like other securities.

• While REITs themselves pay no taxes, their investors still pay taxes on the dividends they receive. This can be a disadvantage unless the REITs are in an IRA or 401K account.

Disadvantages of REITs

• Publicly traded REITs are easier to buy and sell than actual properties.

• REITs tend to have a lot of debt. Owing money is always risky. This debt also makes them interest-rate sensitive. However, a viable REIT with long-term lease contracts will generate enough monthly cash flow to cover their debt payments and have enough left over to pay steady dividends. During a recession or periods of other financial abnormalities, REITs may not be able to raise enough money through debt or equity to buy real estate. They may have to wait to buy new properties.

 

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