Many investors may be familiar with an investment known as a REIT, or real estate investment trust. A REIT is a trust or a company that owns real-estate-related assets, such as apartment buildings, commercial office space, or mortgage debt. REITs come in many shapes and sizes and often specialize in one type of real estate or another. REITs can be legitimate investments, but not all REITs are created equal.
Investors should be aware of “non-traded REITs.” Many REITs are publicly traded, meaning that they have been registered with the SEC and are easily tradeable on the New York Stock Exchange or NASDAQ. A “non-traded” REIT, by contrast, is not traded on a stock exchange and is usually managed by an external manager paid through transaction fees. Though they are registered with the SEC, non-traded REITs may present significant risk to the average investor.
First, non-traded REITs generally lack liquidity, or marketability. While a portion of total shares outstanding may be redeemable each year, redemption offers may be priced below the purchase price or current price. An investor may have to wait a number of years before the REIT is listed on an exchange to sell his or her shares. If you may need to sell your shares in the REIT in the near term to raise cash, a non-traded REIT might not be a suitable investment choice for you.
Non-traded REITs also tend to charge a higher fee up front, which effectively lowers the value and potential return on one’s investment. While non-traded REITs may offer higher distributions, investors should also note that the distributions may be made from principal investments if the earnings from the real estate holdings are not sufficient. This effectively lowers the value of the shares in the REIT, as it prevents the REIT from investing that money in additional real estate.
Moreover, as a result of not being listed on an exchange, non-traded REIT shares may be difficult to value. The value will most likely be determined by a periodic appraisal by the trust’s manager of the properties (or debt) owned by the REIT. This valuation may or may not be accurate. Further, an investor should note how the trust manager gets compensated. Conflicts of interest may arise, if the manager’s compensation results from fees for transactions that are not necessarily in the best interests of the shareholders.
Because of these dangers, an investor should be wary about investing in a non-traded REIT. This kind of investment requires significant investigation and introspection to ensure it meets your needs. In most cases, the average individual investor should find another, more suitable product.