Is investing in real estate investment trusts right for you?

Key Points

Q. What do I need to know about investing in a real estate investment trust?

REIT category. Equity REITs may operate property in a specific area of their expertise, such as retail, office and industrial, hotels, or health care facilities. Residential REITs own and operate apartment buildings and multi-family dwellings, rather than single-family homes. Mortgage REITs, which lend money directly to real estate owners or invest in existing mortgages or mortgage-backed securities, are generally excluded from the equity REIT universe because they perform more like fixed-income instruments such as bonds, with income based on interest payments. Hybrid REITs combine the strategies of both equity and mortgage REITs.

Diversification. As with financial assets, owning a broad mix of REITs can help reduce specific risk in a portfolio. This diversification eliminates exposure to a single REIT category, manager style, or geographic region. Also, adding international real estate can further enhance the potential diversification benefit, making them a useful complement to equities in developed and emerging markets.

REITs carry stock market risk, as well as risks specific to individual real estate properties, sectors, regional markets, and the operating firm. The securities are also subject to market pressures that may push share prices above or below the value of the underlying real estate. However, identifying a market premium or discount in a REIT is difficult since the underlying asset value reported by a REIT is based on an appraisal, which may be several months old. REIT returns also depend on the buying, selling, and operating decisions of management.

A manager may adopt risky strategies, such as heavy leveraging or concentrating in just one area, creating a lack of diversification. They may pay too much for properties, acquire poorly performing properties, change strategies regarding property mix, or make other business decisions that compromise performance. Investors holding foreign REITs or REIT funds are also exposed to risks specific to the country, such as legal structure, investment restrictions, ownership rules, tax treatment, and currency risk.

All of this underscores the importance of knowing your risk tolerance, carefully analyzing REIT fund managers, and diversifying to eliminate exposure to a single REIT manager or category.

Q. Does it make sense to use a donor-advised fund for charitable contributions?

A. When utilizing a donor-advised fund, you donate cash (or in some cases property) to a special account managed by a sponsoring charitable organization. You then recommend the charities you would like to see benefit from the funds.

It is important to understand that although you cannot legally require these organizations to be the recipients, the fund generally will proceed with your recommendations unless it is legally prohibited from doing so. You may qualify for a current tax deduction, based on the value of your contribution to the fund, and subsequent additions to the fund may also qualify for deductions, thus providing tax benefits in future years.

The advantage of contributing to a donor-advised fund is that the sponsoring charity handles all of the administrative matters for you, which minimizes your time in setting it up. In addition, your privacy is protected, allowing you to make gifts anonymously.

This type of gifting arrangement is not suitable for everyone, and certain minimums will apply. Be sure to speak with your tax adviser for more information and to determine if you are a viable candidate for this strategy.

Joel M. Blau, CFP, is president and Ronald J. Paprocki, JD, CFP, CHBC, is chief executive officer of MEDIQUS Asset Advisors, Inc. in Chicago. They can be reached at 800-883-8555 or blau@mediqus.com
or paprocki@mediqus.com