If you are looking for passive income, you may be eager to jump into the rental property market with both feet. However, there is an alternative that might be right up your alley. At some point you will need to make a decision between REITs and Rental Property. A Real Estate Investment Trust (REIT, pronounced “REET”) functions much like an MLP and other dividend stocks. Whereby they pass through a proportion of the rental income on commercial property to their investors. What this means for you, is that you hold a portion of a portfolio of rental properties, which gives you a few distinct advantages over traditional Rental Property Investments. Here is a breakdown of the main benefit of REITs vs Rental Property.
Liquidity risk. Nevermind the fact that buying a rental property opens you up to numerous annoyances and fees out the wazoo. The main problem with owning a rental property is being able to sell it for a reasonable price on the open market. While you might be lucky enough to buy a property in an “up and coming” neighborhood, chances are you are going to want to sell this property at some point. Will you be able to sell for the price you want? Will you be able to get out without incurring a large marketing/commission/closing fee that may hit your bottom line?
Repairs and renovations will chip away at your appreciation rate. The typical rental property appreciates around 4% per year. Freddy Mac recommends keeping 4% of your building’s worth on hand to cover repairs and renovations needed. Per year. If you are not in a high rental income area, you are in for some serious headaches.
Take on the other hand, a highly liquid REIT. We will take Realty Income Corporation or $O. One of the most tried and true REITs on the open market. Since 1995, Realty Income Corporation has returned 16.44% per year. That is 25 years of besting the market by more than 7% every single year. Along with the worst drawdown being -34% during the Great Recession compared with the S&P’s drawdown of 50%. Now imagine trying to sell your house during the Great Recession. It would take you months while you continue your mortgage payments, stuck in real estate hell.
Had you invested just $100,000 in REITs vs Rental Property, your investment would have grown to $4.6M by 2020. How bout them apples?