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Private Real Estate vs REIT: What’s the Difference?

Christina

June 17, 2022

Stepping into the world of real estate investment can be daunting without a professional to guide you. When you first start looking into how and where you should invest, the options can be bewildering.

Private Real Estate

However complicated as things may seem in real estate, a little time and forethought can go a long way in helping you ensure your money is going to the right place.

Let’s take a minute to learn about the advantages and disadvantages of private real estate and REITs, respectively—how these investment funds work and which of them is right for you.

A Few Real Estate Basics

It’s important to know foundational concepts in real estate. Different funds can be based on many different types of ownership and investment. A key concept to understand when it comes to real estate is something you’re probably familiar with at a basic level—property: the ownership of a real estate asset.

Property can refer to a diverse range of assets. Generally, there are five types of real estate that can be considered assets. These are the five main types of real estate that you need to be familiar with in order to understand the type of assets that will be the backbone of the funds you’re looking to invest in.

What is Residential Property?

Residential real estate is likely the type that most people are familiar with. It refers to types of real estate that are zoned and developed to be used as living spaces.

These are houses, apartments, condos, and or simply undeveloped property deemed residential real estate by zoning ordinances.

What Is Commercial Property?

Commercial real estate refers to properties that are used to facilitate commercial business enterprises. These are the consumer-facing business properties that often platform the goods and services for a customer.

Stores, offices, and even multi-family homes that exceed a certain number of domiciles can be considered commercial real estate spaces.

Industrial Property Defined

As opposed to commercial real estate, industrial real estate accommodates the manufacturing or development stages of a business’s operations. The products, services, or goods that find their way to commercial spaces are created in industrial spaces.

As the name suggests, they are industry-facing, meaning these types of property are for business usage only; factories, warehouses, plants, and other facilities like these are considered industrial properties.

What Is Raw Land?

Raw land refers to undeveloped land that is not specifically zoned for any purpose. Given their general status, this type of real estate can vary in how it’s used. It can be developed for agricultural purposes, industrial, residential, or commercial.

Special Use Real Estate Defined

Real estate considered special use refers to properties that serve a very specific function. More often than not, these types of properties are not up for investment, as they are usually owned and operated for public usage.

These are things like libraries, cemeteries, churches, government buildings, or schools.

Different private equity real estate property funds and REITs may specialize in different types of property, so look before you leap.

Why Choose a Fund?

Personal ownership of a property can give you all sorts of returns, but managing it on your own can become a time-consuming, costly expense. What’s more, managing a residential property is difficult enough, but managing a commercial property can be too big a burden for an individual to manage on their own.

Private equity real estate or REITs provide an effective solution for investors who want the security of rock-solid real estate investments without the burdensome encumbrances of managing the properties themselves.

But what are they, and how do they work?

What is Private Equity Real Estate?

Private equity real estate refers to a specific method of real estate investment that differs from conventional property ownership.

Private equity real estate is a type of alternative investment that consists of a mix of private and public real estate investments. An alternative investment refers to a type of investment that doesn’t fall within conventional investment categories: stocks or bonds, for example.

These private real estate investments are managed professionally. They allow accredited individuals to invest in a portfolio of real estate investments that can range from property equity to debt holdings.

The type of properties in a private equity real estate fund can be diverse. Part of their approach to investing is based on an active management strategy; this means those fund managers, or investors, are more involved in the buying, selling, and holding of the assets within the fund.

A professionally managed private equity real estate fund actively monitors market trends so as to make the right investments for the best return.

How Does a Private Equity Real Estate Fund Work?

In order to invest in a private equity real estate fund, you need to be considered a high-net-worth individual. The assets in these funds are often very expensive, which requires investors to have a certain threshold of liquid assets to sustain the ownership and equity of these properties.

The general partners of the fund will invest in a wide range of property types. Funds like these can have everything from residential properties to commercial and even industrial properties. It all depends on the type of fund you’re invested in.

Christina, for example, primarily deals in residential and commercial real estate on the California coast. Check out some of the properties we have in our portfolio.

These assets are pooled together where they are actively managed by the general partners. Assets are sold, held, and bought with a return on your investments in mind.

What Are the Returns on a Private Equity Real Estate Fund?

One of the main draws to private equity real estate is the high returns. While funds like this may have higher illiquidity, they nevertheless have a high potential to make great returns on your investment with equally robust price appreciation.

Annual returns with private equity real estate can range from 6% to 20%. Finding the right managers can make all the difference in the return that you get.

It all comes down to your investment strategy.

At Christina, our strategy has averaged double-digit returns on your investment, and relies on buying properties that are consistently well priced. 

We buy primarily in the Westside region of Los Angeles, which has historically proven to be one of the hottest real estate markets in not just the city but the entire country. Westside neighborhoods offer ultra-prime real estate in:

  • Beverly Hills
  • Brentwood
  • Century City
  • Malibu
  • Santa Monica
  • Venice/Silicon Beach

When value-bought at prices that account for market fluctuations, paired with strategies that prevent passive losses, Christina gets you a return that you can count on.

What Are Real Estate Investment Trusts (REITs)?

REIT stands for real estate investment trusts.

They are companies that can own or finance all sorts of properties across sectors that produce an income. That could mean a wide range of properties: commercial properties like offices or stores, industrial properties like warehouses, or even special use properties relating to infrastructure.

The majority of REITs can be traded on the stock exchange, meaning they are easier to buy into and easier to get out of.

With REITs, people can invest in real estate assets in the same way they might invest in any other company on the stock exchange. In the United States, around 3.5 trillion dollars in assets are owned by REITs of some kind.

How Does a REIT Work?

The way the majority of REITs work is fairly straightforward. As the owner of the property’s assets, the REIT receives rental income by leasing out the space to prospective renters. That income is then returned to the shareholders as dividends, similarly to how a company would pay out shareholders.

There are certain requirements that determine whether or not a company can qualify as a REIT.

  • They must have more than 100 shareholders
  • 50% of the shares cannot be held by five or fewer individuals
  • Operate as a taxable corporation
  • Shareholder dividends must be paid out as at least 90% of the REIT taxable income.
  • Have a board of trustees in charge
  • Invest a minimum of 75% of gross assets into cash, real estate, or U.S Treasuries
  • 75% of total income must become for sales of real estate, accumulated mortgage interest, or rent paid.

What’s the Difference Between Private Equity Real Estate Funds and REITs?

There are a few key differences between private equity real estate funds and REITs.

Chief among the facts is that REITs are publicly traded, while private equity funds–as their name suggests—are not.

Because REITs are publicly traded, they have higher degrees of liquidity compared to private equity funds. This can be an advantage for REITs if you are more interested in short-term gains. 

Investors can get in and out of REITs much easier than private equity funds because of their liquidity. Furthermore, because they are publicly traded, REITs require a far lower minimum in order to invest.

But this can also make REITs a riskier investment than private equity funds.

REITs are highly correlated to the stock market. That means that there can be more risk in REIT investments. Because they can be influenced by the ups and downs of market trends, REITs sustain higher levels of risk if the market goes down, even in the real estate market isn’t.

While private equity real estate funds have higher minimums–they accept only accredited investors—the risks are not as extreme as REITs because the pooled assets are more safely contained from the larger, public market.

The private ownership of these real estate assets makes them safer from the factors that might drive down the value of REIT assets. An especially diversified private equity fund can weather the ups and downs of the market because they are privately owned by the pooled investors.

Which is Best For You?

If you’re looking for a stable investment you can count on over the years; a private equity real estate fund may be the way you want to go.

In short, REITS are a fast, accessible way to invest in real estate assets. But they can incur higher risk as well because of their high correlation with the stock market. 

Private equity real estate funds, while more illiquid, are better long-term investments that pay out consistent returns to their investors.

Invest Your Money Wisely with Christina

Want to learn more about investing your money in real estate? Check out our free educational resources that will help you become a better investor in the world of real estate. Christina has been in the real estate market for over 40 years. We’ve seen all sorts of market trends rise and fall. 

In short, we’ve learned a thing or two about real estate. For beginner investors and veterans alike, there’s always something to learn about when it comes to making better choices for your investments.

Sources:

Private Equity Real Estate | Investopedia

Real Estate Investment Trusts | Investor.gov

Instructions for Form 1120-REIT (2021) | IRS

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