Understanding and Avoiding the Dangers of Non-Traded REITs

Non-Traded REITs

With interest rates stuck near zero for many years now, more savers are looking for an alternative to low-yielding savings accounts, money markets and certificates of deposit. That is understandable. After all, everyone wants to get the most for their hard-earned money and maximize the value of their investments.

What is also understandable is that creators of less than reputable products are rushing in to fill the void, touting high returns and convincing investors to pour their money in. If you have been listening to the radio lately, you have probably heard at least one ad for a real estate investment trust, or REIT. While the REIT concept is a good one, many of these heavily advertised investments fall into the non-traded REIT category, and that part of the market can be a real minefield for the unwary investor.

What is a REIT?
REIT is short for real estate investment trust, a form of real estate investing that pools the resources of individuals and uses the money to put apartment buildings, shopping malls, commercial office buildings and other income-generating properties.

When the tenants of these properties pay rent, the money is passed on to investors in the form of dividends. Theoretically, this approach provides investors with a steady stream of rental income they can use to augment their retirement savings, enhance their lifestyle and achieve greater financial stability.

In practice, the REIT concept is often a bit less than it seems. While there are some excellent publicly traded REITs on the market, many of the most highly touted are not traded on the open market. That lack of public trading and accountability increases investor risk and leaves unwary buyers open to all manner of problems.

The Problem with Non-Traded REITs
Perhaps the biggest problem with the non-traded REIT market is the lack of transparency. Without a public market to rely on, it can be difficult, if not impossible, for investors to know how much the underlying real estate is worth.

As with any piece of real estate, the true value of the investments in a REIT cannot be truly known until the property is sold. Publicly traded REITs are held accountable by the marketplace, with teams of analysts reviewing the underlying value of their holdings and making intelligent and informed decisions.

With a non-traded REIT, there is no such accountability. The value of the non-traded REIT can be extremely difficult to discern even for professionals. When you add the fact that these investments are often sold to unsophisticated investors, it is easy to see how quickly dangers can crop up.

Many non-traded REITs also suffer from a lack of liquidity. What this means in practical terms is that investors may not be able to get their money back in a timely basis, and when they do their shares of the trust may be worth far less than they thought.

Without an open market, it can be extremely difficult to sell shares in a non-traded REIT, increasing the danger for investors who find that the income they have been promised has failed to materialize. Owners of publicly traded REITs can simply sell their shares on the open market, taking a profit or loss depending on share price and market conditions. Their non-traded REIT counterparts do not always have that luxury, something that many new investors do not understand.

Real estate can be an excellent investment, and vast fortunes have been made buying and selling apartment buildings, commercial properties and individual homes. Many people have also benefited from real estate investment trusts, a form of real estate investing that lets individuals collect rent without fixing a single toilet or choosing a single tenant.

There is nothing wrong with investing in real estate, either directly or through a REIT. If you do decide to invest in real estate, however, it is important to do your homework and make sure the firm you work with is legitimate, transparent and above board. There are surely some good non-traded REITs on the market, but their built-in disadvantages and many complications generally make them less suitable for beginning investors than their publicly traded counterparts.