REITs: When “Liquid” Real Estate Investments Aren’t So Liquid After All

Real Estate Investment Trusts (REITs) are often marketed as a way to invest in real estate without the hassles of being a landlord. They’re supposed to offer the benefits of real estate investing with the liquidity of stocks. But not all REITs are created equal, and some can trap your money for years.

Let me explain the different types of REITs and why liquidity can be a bigger problem than you think.

What Are REITs?

REITs are companies that own, operate, or finance income-producing real estate. They’re required to pay out at least 90% of their taxable income as dividends, making them popular with income-seeking investors.

There are several types of REITs, and the differences matter a lot for liquidity.

Publicly Traded REITs

These trade on stock exchanges just like regular stocks. You can buy and sell them anytime the market is open, and pricing is transparent. These are truly liquid investments.

The downside? Their prices can be volatile and don’t always reflect the underlying real estate values.

Non-Traded REITs (The Problem Children)

Non-traded REITs don’t trade on public exchanges. They’re sold through brokers and financial advisors, often with high commissions and fees.

The problems with non-traded REITs:
– No liquidity – You usually can’t sell them for years
– High fees – Upfront fees can be 10-15% of your investment
– Valuation issues – It’s hard to know what they’re really worth
– Redemption programs – Limited and often suspended during market stress

The Liquidity Trap

I’ve seen too many investors who thought they were buying “liquid” real estate investments, only to discover they couldn’t access their money when they needed it.

Case study: A client invested $100,000 in a non-traded REIT that was supposed to provide “steady income and liquidity.” When he needed the money for medical expenses two years later, he discovered:
– The REIT had suspended its redemption program
– There was no secondary market for the shares
– His money was essentially trapped

Who Gets Sold Non-Traded REITs?

Unfortunately, non-traded REITs are often sold to exactly the wrong people:
– Retirees who might need access to their money
– Conservative investors who don’t understand the liquidity risks
– Income-seekers who are attracted by high dividend yields

These investors often don’t realize they’re giving up liquidity for potentially higher returns.

The Fee Problem

Non-traded REITs often have enormous fees:
– Selling commissions – 7-10% upfront
– Due diligence fees – 1-3%
– Organization and offering expenses – 1-15%
– Management fees – 1-2% annually
– Performance fees – 10-20% of profits

By the time you pay all these fees, you need significant appreciation just to break even.

Red Flags to Watch For

High commissions – If your advisor is earning a big commission, be suspicious.

Emphasis on yield – High current yields often come at the expense of liquidity and principal protection.

Downplaying liquidity risks – If the risks aren’t clearly explained, walk away.

Pressure to invest quickly – Legitimate investments don’t require immediate decisions.

Unsuitable for your situation – REITs that tie up your money for years aren’t appropriate for most retirees.

Better Alternatives

If you want real estate exposure, consider:
– Publicly traded REITs – True liquidity with transparent pricing
– Real estate mutual funds – Professional management with daily liquidity
– Real estate ETFs – Low fees and instant liquidity
– Direct real estate ownership – If you want to be a landlord

Suitability Issues

Brokers have a duty to recommend suitable investments. Non-traded REITs are often unsuitable for:
– Investors who might need liquidity
– Conservative investors who don’t understand the risks
– People with limited investment experience
– Anyone investing a large percentage of their net worth

What to Do If You’re Stuck

If you’re trapped in an illiquid REIT:
– Review the offering documents – Understand your options
– Monitor redemption programs – They sometimes reopen
– Consider secondary markets – Some firms buy illiquid REITs at discounts
– Evaluate legal options – If the REIT was unsuitable, you might have recourse

Legal Options

If you were sold an unsuitable non-traded REIT, you might be able to recover losses through:
– FINRA arbitration for suitability violations
– Misrepresentation claims
– Failure to disclose risks
– Churning if you were moved between different REITs

The Bottom Line

REITs can be good investments, but you need to understand what you’re buying. Publicly traded REITs offer true liquidity, while non-traded REITs can trap your money for years.

Don’t let high yields or promises of “steady income” blind you to liquidity risks. And don’t let brokers sell you illiquid investments that aren’t appropriate for your situation.

If you’ve been harmed by unsuitable REIT recommendations, an experienced securities attorney like Robert Pearce at Investors Rights can help you understand your options and potentially recover your losses.

Remember: liquidity is valuable. Don’t give it up unless you’re getting fairly compensated for the risk.