Introduction
Real estate investment trusts, commonly known as REITs, are often presented as an easy way to gain exposure to property without buying a building, managing tenants, or handling maintenance. They can also provide regular distributions, which makes them attractive to income-focused investors.
However, there are equally important reasons to ask why not to invest in REITs before putting money into them. A REIT is still an investment exposed to market conditions, property values, financing costs, economic cycles, and management decisions. Publicly traded REITs can also experience substantial share-price fluctuations even when the underlying properties appear stable.
The risks become even more important with non-traded REITs. These products can have limited liquidity, significant fees, and less transparent pricing. The U.S. Securities and Exchange Commission (SEC) specifically warns investors to understand the differences between publicly traded and non-traded REITs before investing.
So, why not to invest in REITs? The answer depends on your financial goals, risk tolerance, investment horizon, tax situation, and the specific REIT you are considering. Understanding the disadvantages can help you decide whether real estate exposure belongs in your portfolio.
What Is a REIT?
A REIT is a company or trust that owns, operates, or finances income-producing real estate. Instead of purchasing an apartment building, shopping center, warehouse, or office property directly, an investor can purchase shares of a REIT.
This structure can make real estate more accessible. Publicly traded REITs are generally bought and sold through brokerage accounts, much like other publicly traded securities. Some REITs specialize in particular property sectors, while others hold diversified portfolios.
REITs can provide distributions to shareholders, but distributions should not automatically be interpreted as guaranteed income. The underlying business still has to generate sufficient cash flow to support its operations and distributions.
The important point is that owning a REIT does not mean owning a risk-free piece of real estate. You own an interest in a business whose value can change with property markets, financing conditions, investor sentiment, and company performance.
Why Not to Invest in REITs?
There is no universal reason that makes REITs unsuitable for every investor. Instead, several characteristics can make them a poor fit for particular financial situations.
REITs Can Be Highly Sensitive to Interest Rates
One of the major reasons investors ask why not to invest in REITs is interest-rate sensitivity.
Many real estate companies use debt to purchase, develop, or operate properties. When borrowing costs rise, refinancing existing debt can become more expensive. New projects may also become less attractive if financing costs increase.
Higher interest rates can create another challenge. When bonds and other interest-bearing investments offer more attractive yields, investors may demand a higher return from REITs before purchasing them. This can put downward pressure on REIT share prices.
The effect is not identical for every REIT. A company with manageable debt, strong cash flow, and favorable lease structures may respond differently from a highly leveraged company.
Still, interest rates are an important variable to understand before investing.
Publicly Traded REITs Can Be Volatile
A property itself may appear relatively stable, but a publicly traded REIT’s share price can move significantly from day to day.
Investors are not simply pricing the buildings owned by the REIT. They are also pricing expectations about future earnings, interest rates, economic growth, financing costs, occupancy, management decisions, and broader market sentiment.
FINRA notes that publicly traded REITs generally offer greater liquidity than non-public REITs, but they can also be more exposed to price volatility. Changes in interest rates, property values, and economic conditions can affect REIT returns.
This matters if you cannot tolerate substantial fluctuations in the value of your investment.
Property Values Can Decline
Real estate is not guaranteed to appreciate.
Commercial properties can lose value because of changing consumer behavior, weak economic conditions, oversupply, changing work patterns, demographic shifts, or higher financing costs.
For example, a REIT heavily concentrated in one type of commercial property could face challenges if demand for that property type declines.
Property-specific risks can also affect performance. A portfolio might experience lower occupancy, higher operating expenses, unexpected maintenance requirements, or difficulties renewing leases.
Therefore, investors should look beyond a REIT’s dividend yield and understand what properties generate its income.
High Dividend Yields Can Be Misleading
One reason people consider REITs is the potential for income. However, focusing exclusively on the headline distribution yield can create an incomplete picture.
A high yield does not automatically mean a better investment. The underlying company may face declining cash flow, increasing debt costs, or weakening property fundamentals.
This is particularly important with non-traded REITs. The SEC warns that some non-traded REIT distributions may come partly from offering proceeds or borrowings rather than operating earnings. Such distributions can reduce the value of the investment and the cash available for future acquisitions.
Investors should therefore investigate the source and sustainability of distributions rather than treating a high percentage yield as guaranteed income.
Non-Traded REITs Have Additional Risks
When considering why not to invest in REITs, it is essential to distinguish publicly traded REITs from non-traded REITs.
Publicly traded REITs have shares listed on exchanges, meaning investors can generally see a market price and sell their shares during market hours.
Non-traded REITs do not trade on national securities exchanges. That can make them substantially harder to sell.
The SEC warns that non-traded REIT investors may have to wait years for a liquidity event. Redemption programs may also have restrictions or may be discontinued, depending on the terms of the investment.
Limited Liquidity Can Become a Serious Problem
Liquidity matters when you need access to your money.
Suppose an investor experiences an unexpected financial emergency and needs cash. A publicly traded security can generally be sold through a brokerage account, although its market price may be lower than the purchase price.
A non-traded REIT can present a different situation. Selling may be restricted, delayed, or subject to specific redemption conditions.
FINRA similarly cautions investors about securities that can remain illiquid for long periods, particularly when investors may need access to their money.
For someone with a short investment horizon, this limitation can be particularly important.
Non-Traded REIT Fees Can Reduce Returns
Fees are another major consideration.
The SEC notes that non-traded REITs can have substantial upfront costs. Its investor guidance states that sales commissions and upfront offering expenses have historically totaled around 9% to 10% in some offerings, while certain structures can have even higher costs.
High fees create an immediate hurdle because part of the investor’s capital is consumed by expenses rather than invested in income-producing assets.
Over time, management, acquisition, transaction, and other expenses can also affect total returns.
This is why investors should examine the complete fee structure instead of comparing REITs solely by their advertised distribution rates.
REITs Can Create Tax Considerations
Taxes are another reason someone may decide that REITs are not appropriate for their particular portfolio.
REIT distributions can receive different tax treatment from qualified dividends generated by certain traditional corporations. In the United States, the SEC notes that REIT dividends generally may be treated as ordinary income rather than receiving the reduced tax rates available to certain corporate dividends.
The actual tax outcome depends on factors such as the type of REIT, the account in which it is held, the nature of the distribution, and the investor’s circumstances.
Tax rules can also vary considerably between countries. Investors should therefore consider the tax treatment applicable to their own jurisdiction before making a decision.
If you’re evaluating investments alongside personal debt obligations, it can also be useful to understand your broader financial position. For example, questions such as Can I Cancel My Car Loan? may affect how much capital should reasonably be committed to investments in the first place.
REITs May Reduce Diversification If Used Incorrectly
REITs can add real estate exposure to a portfolio, but buying several REITs does not necessarily create complete diversification.
An investor might own multiple REITs that are all exposed to similar economic conditions. For instance, several companies may have substantial exposure to commercial properties, office buildings, retail locations, or a particular geographic market.
There is also a broader asset-allocation issue. If a portfolio already contains significant exposure to property-related businesses, adding more REITs could increase concentration rather than reduce it.
Diversification works best when investments have meaningfully different sources of risk and return.
Management Decisions Can Affect Performance
Investors in a REIT are relying on management to allocate capital effectively.
Management may decide to purchase new properties, sell existing assets, issue shares, borrow money, refinance debt, or enter new markets. These decisions can influence future returns.
Two REITs operating in the same property sector can therefore produce very different results.
Investors should examine management’s track record, balance sheet, property portfolio, debt maturity schedule, occupancy levels, tenant concentration, and cash-flow trends.
A high distribution alone does not tell you whether management is creating sustainable long-term value.
Economic Downturns Can Affect Rental Income
REITs ultimately depend on real economic activity.
When businesses close locations, consumers reduce spending, companies downsize offices, or tenants experience financial difficulties, property owners can be affected.
The impact varies by property type. Residential, industrial, healthcare, retail, hospitality, and office REITs can respond differently to the same economic environment.
That means investors should understand the economic drivers behind a REIT rather than treating the entire REIT sector as one homogeneous investment.
When Might REITs Not Fit an Investor?
The question why not to invest in REITs becomes more practical when viewed through personal financial goals.
A REIT may not fit someone who needs highly predictable principal values, has a short investment horizon, cannot tolerate market volatility, or needs immediate access to invested capital.
Non-traded REITs may be especially unsuitable for investors who may need to sell quickly because liquidity can be limited.
Similarly, an investor who already has substantial exposure to real estate may want to consider whether another property-related investment actually improves portfolio diversification.
The SEC emphasizes that investment decisions should account for factors such as risk, return, fees, diversification, and liquidity.
How to Evaluate a REIT Before Investing
Understanding why not to invest in REITs does not mean ignoring them completely. It means evaluating them carefully.
Start by examining the properties and sectors that generate the company’s revenue. Then look at debt levels, interest expenses, lease terms, occupancy, tenant concentration, distribution history, and operating cash flow.
Investors should also review regulatory filings and offering documents, particularly for non-traded REITs.
For publicly traded REITs, market liquidity can make buying and selling easier, but that convenience does not remove investment risk. For non-traded REITs, investors should pay particularly close attention to redemption restrictions, valuation methods, fees, and how distributions are funded.
Most importantly, compare the REIT with your actual financial objectives rather than investing simply because its distribution yield looks attractive.
Alternatives to Consider
Someone who decides that individual REITs are not appropriate does not necessarily have to abandon real estate exposure entirely.
Depending on their objectives, they might consider diversified REIT funds or ETFs, direct property ownership, real estate partnerships, or completely different asset classes.
A REIT fund or ETF can provide exposure to a basket of REITs rather than relying on a single company. FINRA notes that these funds can provide broader exposure to real estate than investing in one individual REIT.
The appropriate alternative depends on the investor’s objectives, risk tolerance, liquidity needs, costs, and tax situation.
Understanding Why Not to Invest in REITs
Understanding why not to invest in REITs is just as important as understanding their potential benefits. REITs can provide convenient access to real estate and may generate distributions, but they are not guaranteed-income products or substitutes for careful portfolio planning.
Publicly traded REITs can experience significant market volatility, while non-traded REITs may introduce additional concerns around liquidity, valuation, and fees. Interest rates, property values, economic conditions, debt levels, and management decisions can all influence results.
Before investing, review the specific REIT’s financial statements, property portfolio, debt obligations, distribution history, fees, and liquidity terms. Then consider how the investment fits with your overall financial plan.
FAQs
Why not invest in REITs?
Potential reasons include market volatility, interest-rate sensitivity, property-market risk, taxes, management risk, fees, and concentration. Non-traded REITs can also have significant liquidity and valuation concerns. The right decision depends on the specific REIT and the investor’s circumstances.
What are the disadvantages of investing in REITs?
Common disadvantages include fluctuating share prices, exposure to real estate cycles, borrowing costs, possible distribution reductions, taxes, and management risk. Non-traded REITs can add restrictions on selling and potentially higher fees.
Are REITs a risky investment?
REITs carry investment risk like other securities. Publicly traded REITs can experience significant price movements, while their underlying businesses remain exposed to property values, economic conditions, interest rates, and financing costs. Risk varies considerably between individual REITs.
Can you lose money investing in REITs?
Yes. A REIT’s share price can decline, and distributions can change. An investor who sells below the purchase price can realize a loss. The financial performance of the underlying properties and company also affects the investment.
Are REITs good for passive income?
REITs can provide distributions, making them potentially useful for investors seeking income. However, distributions are not guaranteed, and a high distribution yield should not be viewed as proof of a safe or sustainable investment. Investors should examine the source and financial sustainability of distributions.
Are REITs better than owning real estate?
Neither approach is universally better. REITs can provide real estate exposure without requiring an investor to purchase and manage a property directly. Direct ownership provides greater control but also involves responsibilities such as financing, maintenance, vacancies, and property management.
