9 reasons not to invest in direct real estate for passive income 🏛️

Do you want to build a portfolio that delivers you enough monthly income to cover your expenses and even more than that? Well me too.

While the consensus seems to be that direct real estate (e.g. buying an apartment to rent out) is the safest bet, I personally decided against it. Here are a couple of reasons why I prefer stocks over real estate. But not every stock. REIT stocks.

What are REIT stocks?

A real estate investment trust (REIT) is a company owning and typically operating real estate which generates income. Source: Investopedia.

The first REIT has been incorporated in 1960 and investing in REITs has become very popular since then. Due to the predictable income and the lower risk versus other types of stocks.

So if you buy a share of a REIT stock such as Vereit Inc, then you buy a piece of a company that owns diversified real estate throughout the US. If you buy a share of a REIT specialized in owning and monetizing forests such as Weyerhaeuser, then you buy a piece of a company that owns and manages forests. There are lots of type of REITs, but here the most common forms:

  • Residential REITs – own and manage residential buildings
  • Lodging REITs – own and manages hotels
  • Retail REITs – own and manage shops, malls, restaurants
  • Entertainments REITs – own and manage entertainment facilities. Such as movie theaters, casinos, golfs, amusement parks, etc…
  • Healthcare REITs – own and manage hospitals & clinics
  • Forets REITs – own and manage forests
  • Mortgage REITs – own a piece of the corporate and private real estate mortgages. Also called MBS for Mortgage-Backed Securities.

Here are 9 reasons why I rather invest in REIT instead of buying real property and renting it out myself. Next to REIT in the US I also like to invest in Turkey.

Entrance fees are much lower in REIT

I personally only bought a property in Europe. But according to this statistic, you can see that the transaction fee on real estate varies between 5% and 100% in extreme cases. In Germany for example, if you want to buy an apartment, you will have to face a) 2% notary fees for drafting the contract and registering you in the books b) pay a transaction of 6.5% to the region, and c) realtor fee is between 5 to 7.2% to be paid by the buyer. So if you want to buy a 1.000.000€ apartment, you will have to pay an additional total of 150.000€ the transaction fee.

If you want to buy REIT stocks, and if you use a good broker such as De Giro or Interactive Broker, you could buy REIT stocks and entry fees would be lower than 1%.

Of course, REIT companies also need to pay notaries, realtors, and taxes when they purchase properties, but since they do it in bulk, the fees are much less painful.

REIT or Real Estate property. Source: Pexels.com

Diversification. Don’t put all your eggs in the same basket.

I own a flat that I rent out. So I know what it feels like to have all your eggs in the same basket. The beauty when you buy a REIT stock is that you don’t buy a single apartment in a single building in a single district. But rather you buy a piece of apartments, restaurants, offices, hospitals, shops, etc…

Let’s imagine you have 100.000€ to invest and want to buy a 1bedroom apartment for renting it out. Before you buy an apartment for investment. Try to imagine the following situation :

  • The building gets flooded
  • There is a big 5g relay being installed in the building in front of yours
  • You discover mold in the flat
  • Above the flat you bought, there is a crazy neighbor that parties all the time
  • The tenant stops paying
  • etc….

When you buy a REIT, you actually don’t have to worry about any of this. You just buy it, sit tight and enjoy the dividends.

Investing in REIT is much more flexible

Think about it, you now own 3 apartments in whatever city. Let’s say London. However, you want to move to Bali for 6 months. One of your tenants decides to leave one of your properties. You then need to organize the tenant leaving, checking that nothing has been broken, wiring back the deposit, finding a new tenant, etc… It’s not a full-time job but it’s still tricky to organize this couple of thousands of miles away. The same thing if a pipe is breaking or if the radiator is not working any longer.

You will need to have someone on the ground to deal with that. Which diminishes your return. Agencies generally ask for one month’s rent to find a new tenant and up to 6% of the rent to administrate the property.

Regulatory risk is better to spread with REIT

It takes time to change a law, and in general, it concerns only one country/city at a time and one segment at a time. For example, the Berlin senate decided to drastically limit the rent increase in Berlin residential properties. So if you have only one residential apartment in Berlin, this new law makes everything much more complicated for you. However, if you own multiple REITs in various countries that are spread over Residential, Retail, Offices, Hospitals, Casinos, Hotels, then the regulatory risk almost disappears.

Default risk is spread across multiple tenants

If you rent in Europe and have two apartments to rent out, people would consider you as a rich man. It’s true. But make sure you understand that when you rent a residential property it’s not easy to force a tenant to pay his rent. Eviction procedures take years and cost thousands of Euros of legal fees. In France, you can also not evict tenants during winter for example.
In case your tenant does not pay you, and you have a mortgage, to pay for those flats, then you are in a tricky situation.

Stocks in REIT are much more liquid

You need the money quickly? No problem, just set up a sell order in your broker account and you will sell your REIT stocks within a day, then the money is on your account.

It’s not the same tune when you own an apartment. First, you need to have the value estimated, find a buyer who agrees on the price (which can take a long time), go to the notary to get the transaction official, wait for another 10–15 days for the money to come to your account.

Direct real estate or REIT investing – Source: Pexels.com

Owning REIT stocks is simply less work

Here a list of things that you won’t have to do if you rather invest in REIT

  • Physically visit 10–15 units before you buy one
  • Sign an agreement with a realtor
  • Sign a buying agreement at the notary
  • The risk that the buying party does not show up
  • Get a key transfer with the previous owner
  • Post an offer to rent the apartment
  • Meet 20 tenants, select one
  • Select an agency to deal with your property
  • Go to the general assembly
  • Find a contractor to fix a pipe or replace a radiator
  • Do a special tax declaration for the flat

Return on investment is higher with REIT

Most REITs deliver between 4 and 5% of yearly dividends. Owning a single apartment generally delivers less than that. I will do a more thorough calculation. But in general, when you count all the factors (time invested, speculation tax, renovation costs, agency cost, etc…) then in most European cities, you won’t get more than 2% return.

>> You want to achieve financial freedom? Have a look at my guide.

Owning REIT is more discrete

The beauty when you own a REIT instead of buying actual physical property is that your name is less visible. Let’s imagine you end up owning a building in a prime location, some “people” could come to the idea to pressure you into selling. It happens more than you think. Especially if you own real estate where laws are less enforced than others, but also in developed countries where the mafia is present. Land registers are generally easy to access so it’s easy to make a move. Very fortunate individuals generally own real estate through offshore structures so that their anonymity is protected. But still, this is a risk you won’t face if you decide to invest in REIT stocks.

When you look at the ownership of REIT stocks, you generally see the same partner. Investment funds such as Blackrock, Wisdom Tree or Vanguard generally own each couple of % of those stocks.

Ownership structure of Vereit INC – Source: Marketscreener
Ownership Structure of HCPI.com – Source: Market Screener

Closing words

Some people still get really rich in real estate. But they are pros and they do it full time. If you have all the contacts, (e.g. contractors, notaries, realtors), the time to find the best properties, and the bankroll to diversify the portfolio, then you could consider real estate as a strategy. But my strategy, because I cannot deal with real estate full-time, is clearly to stick to REIT for now. Here are the key takeaways:

  • Fewer entry fees in REIT
  • REITs stocks have higher diversification
  • REITs stocks are more liquid
  • REITs stocks represent less work
  • REITs stocks offer similar to better return
  • REITs stocks offer more anonymity

My favorite REITs – Disclamer I own most of those below

NameDividend FrequencyREIT Sector
VEREIT IncQuarterlyDiversified
Healthpeak IncQuarterlyHospitals
VICI PropertiesQuarterlyCasinos & Golf
Host & Hotels ResortQuarterlyLodging

9 Reasons Not To Invest In Direct Real Estate For Passive Income 🏛️

  • A real estate investment trust is a company owning and typically operating real estate which generates income.
  • The first REIT has been incorporated in 1960 and investing in REITs has become very popular since then.
  • So if you buy a share of a REIT stock such as Vereit Inc, then you buy a piece of a company that owns diversified real estate throughout the US. If you buy a share of a REIT specialized in owning and monetizing forests such as Weyerhaeuser, then you buy a piece of a company that owns and manages forests.
  • Mortgage REITs – own a piece of the corporate and private real estate mortgages.
  • Here are 9 reasons why I rather invest in REIT instead of buying real property and renting it out myself.
  • If you want to buy REIT stocks, and if you use a good broker such as De Giro or Interactive Broker, you could buy REIT stocks and entry fees would be lower than 1%. Of course, REIT companies also need to pay notaries, realtors, and taxes when they purchase properties, but since they do it in bulk, the fees are much less painful.
  • Because I cannot deal with real estate full-time, is clear to stick to REIT for now.

Disclaimer: This is not an investing recommendation. None of the detail above is guaranteed to be correct and I cannot behold liable for any losses that might occur if you follow the above strategy.

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