Residential REITs: Investing in Rental Properties Explained

Residential properties REITs are REITs that own and manage residential units for renting out to tenants. Residential REITs may be categorized into either single-family or multi-family structures that are available for occupation for non-business purposes. They may include condominiums, vacation homes, student housing, apartment buildings, etc.

Residential real estate REITs are specifically developed for people to live in and cannot be used for commercial or industrial purposes. Local zoning laws may also restrict the number of residential buildings that can be allowed on a single block.

Summary

• Residential properties REITs are companies that own and manage various types of residential dwelling units such as apartments, single-family houses, condos, terraced houses, etc.
• Residential REITs trade on the public exchange market, which allows investors to buy shares and become part-owners.
• They focus on renting out space in their residential units to tenants, who are then required to pay monthly rent.

Basics of Residential Properties REIT

Real estate may be categorized into residential, commercial, and industrial property. Residential properties are the most common type of real estate. Investors can invest in real estate using the following two methods:

1. Direct investment

First-time buyers of real estate properties may finance their properties using a mortgageMortgageA mortgage is a loan – provided by a mortgage lender or a bank – that enables an individual to purchase a home. While it’s possible to take out loans to cover the entire cost of a home, it’s more common to secure a loan for about 80% of the home’s value.. A mortgage is a loan from a financial institution that facilitates the purchase of the property. The borrower will be required to make monthly repayments that include the principalPrincipal PaymentA principal payment is a payment toward the original amount of a loan that is owed. In other words, a principal payment is a payment made on a loan that reduces the remaining loan amount due, rather than applying to the payment of interest charged on the loan., interest, taxes, and insurance.

Mortgages can be either fixed-rate or variable-rate interest. Fixed-rate mortgages cost more than the latter because they are protected from future increases in interest rates. The real estate property becomes the collateral for the loan. If the borrower defaults on the loan, the bank can dispose of the property to recover any unpaid balances.

High net worth individuals and institutional investors with a large capital outlay may invest directly by buying residential properties or financing new constructions without requiring mortgages. Such investors must be knowledgeable about the real estate industry in order to make informed decisions on the most profitable categories of residential real estate to invest in. Direct investment involves a lot of risks, but it also means higher returns for investors who put their money in profitable residential real estate units.

2. Indirect investment

Investors looking to acquire residential real estate property but lack enough capital to purchase properties can buy shares in REITs that focus on residential real estate. The REITs act as a pool of funds, where investors can contribute money. The capital raised is reinvested in purchasing residential properties and constructing new residential units such as condominiums, townhouses, single-family homes, etc. The investors become shareholders, but they do not take part in the daily operations of the company.

The REIT is run by a professional team, who make key decisions on the residential properties that the company is going to invest in, investment amounts, etc. Due to the tax benefits that REITs enjoy, they are required by law to distribute a majority of their net revenues (at least 90%) to the shareholders in the form of dividendsDividendA dividend is a share of profits and retained earnings that a company pays out to its shareholders. When a company generates a profit and accumulates retained earnings, those earnings can be either reinvested in the business or paid out to shareholders as a dividend..

Categories of Residential REITs

The following are the main categories of residential real estate properties:

1. Apartment buildings

An apartment is a self-contained residential unit that is part of a building, and with its own front door, kitchen, toilet, lounge, bedroom(s), bathroom, etc. Apartment buildings may be multi-story, with one structure housing four or more residential units that can be rented out to different tenants.

The boundaries of the individual residential units are marked by a perimeter of lockable doors. Some apartments may be “mixed-use,” where the ground floor or the initial floors are rented out for commercial or business use, while the upper floors are rented out for dwelling purposes.

2. Multi-family house

Multi-family houses are residential units where several housing units are contained in one multi-story building, with each floor housing a separate housing unit. Multi-family houses can also be built side-by-side or stacked on top of each other within a complex. They can be duplexes, triplexes, or apartments that house two or more families. The entire structure may be owned by an individual, a private or public entity, or leased out to individual families.

3. Terraced house

Originating from Europe in the 16^th century, terraced houses can now be found in different countries around the world. In the US, terraced houses are sometimes referred to as townhouses or row houses. Terraced houses are a row of identical houses that are joined together by their sidewalls. They feature windows at the front and rear sides of the house. Some terraced houses may be made up of several floors.

4. Condominium

Condominiums are commonly known as “condos.” They are built in the same way as an apartment within a building or complex of buildings, but they are independently sellable. The condo owner holds a title to the unit but owns other things like elevators, halls, roof, laundry rooms, stairs, etc. jointly with other condo owners.

The owners manage the shared areas, amenities, and utilities through their homeowners’ associationHomeowners’ AssociationA Homeowners’ Association or an HOA is the governing body of a certain subdivision, townhouse development, condominium complex, or community that is or board of unit owners. The condo leadership oversees the day-to-day operations of the property. Unit owners can sell, rent, or mortgage their units since they hold the sole title to the unit.

Related Readings

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• Foundations of Real Estate Financial ModelingFoundations of Real Estate Financial ModelingLearn the foundations of real estate financial modeling in this introductory guide to building a financial model for a real estate development project.
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