You can own real estate without having to be a landlord.

www.youtube.com/watch?v=5mL5qbhSNeI

What is a REIT? A real estate investment trust (REIT) is a real estate investment company that manages a portfolio of income properties, distributing the lion’s share of its profits as dividends. By getting into a REIT, you can gain an ownership interest in prime commercial real estate … without the headaches of commercial real estate management.

How do REITs work? On one level, a REIT is an agreement with the IRS. In choosing a REIT structure, a real estate investment company agrees to pay out 90% or more of its taxable profits in dividends in exchange for avoiding corporate income tax.¹

In the typical public REIT, investors buy shares in the trust. (You may have heard the term “real estate stock” before; that’s what we’re talking about.) Like any other stock, REIT stock offers you the potential for dividend income and share value appreciation. REIT dividend income tends to be stable, as REITs usually invest in large commercial properties involving long-term tenant leases. The REIT may choose to make some of the dividend a nontaxable return of capital, which results in tax deferral and a lower taxable income for the investor during the period he or she holds the stock. That can boost the after-tax dividend yield. REITs don’t pass their losses onto investors, and they usually don’t have minimums.²

Non-traded REITs. Most REITs are listed on stock exchanges, but not all are. Some REITs are non-traded (or “non-listed”). Non-traded REITs are akin to private equity funds in that they are usually conceived to last less than 10 years before listing their shares, selling out, or liquidating. They typically invest aggressively when they start buying assets, and their dividend yields can be notably higher than those from publicly listed REITs.³

Are REITs right for your portfolio? Many investors are considering REITs these days, attracted by the diversification they provide for a portfolio. Notably, there are REIT mutual funds, closed end funds, and REIT ETFs to choose from, among several options. Before you make the move to invest in a REIT, be sure to speak with a qualified financial advisor who knows the particulars surrounding REIT investment.

Citations.

A special category of securities worth exploring.

www.youtube.com/watch?v=_HiDnbajxSY

Before I explain preferred stocks, let me explain dividends. Dividends are a part of the earnings that a corporation has that are paid out to it’s shareholders – usually on a quarterly basis. Let me give an example. Let’s say you own 1 share of xyz company, and that company is paying out a $5 annual dividend. Every quarter you would receive $1.25 for every share that you owned.

Preferred stocks are stocks that tend to pay sizable dividends. Institutional and individual investors buy preferred stocks because they offer fixed dividends – in fact, dividend yields are typically greater than those of common stocks.¹

Preferred stocks are occasionally called hybrid securities, because they have characteristics of debt instruments (meaning bonds) as well as equities. Let’s review some of their features and pitfalls.

A big feature is the priority of dividend payouts. As the “preferred” adjective implies, these shares are a step above common stock. If you own preferred stock in a company, you will get your dividend first; all the common shareholders will get theirs second if there is money left over. You also have preference if a corporation declares bankruptcy or liquidates and sells assets. In that instance, debt holders are paid first, then the preferred shares, and finally the common shares.

Dividend determination. Dividends paid out on preferreds are akin to coupon payments on a bond. A preferred stock obviously doesn’t have a maturity date like a bond, but it does have a par value, which is used to figure out the payouts. (A good stock research website can help you find the par value and preferred dividend rate of return.) You determine the preferred dividend by multiplying the preferred dividend rate percentage by the par value.

Accumulating dividends. Sometimes a corporation can’t pay dividends to preferred shareholders. If that’s the case, the company will often let the preferred stock dividends accumulate until cash flow improves.

The five kinds of preferreds. Most preferred stocks are cumulative – that is, any missed dividend payments accumulate for an eventual payout. So if a company can’t afford to make the dividend payment for 2 years and then it has the money to do so, the preferred stocks must be paid retro for the missed 2 years while the common stock gets no such consideration. Most preferreds are also callable – that is, the stock issuer has a chance to call (redeem) the shares at par value. Yields on preferred shares sometimes include premiums in recognition of this risk.

Some preferred stocks are convertible, with embedded options allowing you the chance to exchange preferred shares for common ones. (Sometimes a provision is allowed that gives the issuer (or company) the chance to call for the conversion.)

Some preferreds are participating – when a company does well, the dividends from these shares may be greater than the published yield. Finally, when a corporation issues multiple rounds of preferred stock, there may be preference-preferred shares; if you own shares from the first issuance, your preferreds take priority over preferreds issued later.

Now let’s talk about some possible pitfalls. So what is the downside of owning a preferred stock? Well, they do present potential and actual disadvantages. When a market sector heats up and common shares take off, preferreds often lag behind. Also, interest rate hikes can reduce the value of preferred shares. Additionally, you have no voting rights as a preferred shareholder.

Let’s address ratings. There is no “official” rating system for preferred stocks; however, the big credit agencies that rate bonds rate preferreds as well. Standard & Poor’s and Moody’s do, and when they downgrade, it can hit a preferred stock hard. Preferred stocks rated beneath BBB- at Standard & Poor’s or beneath Baa3 by Moody’s are considered junk preferreds.² If you have to go outside of S&P or Moody’s to find a preferred stock’s rating, that’s a red flag – it might mean that it couldn’t get a decent rating from S&P or Moody’s.

A preferred stock investor would do well to research a company’s financial ratios and cash flow, and its interest coverage ratio (higher is usually better).

Before you decide, consider the variables. Preferred stocks have looked attractive to retirees and others who are just seeking consistent dividends and quite happy with that. Rather than explore them alone, you should see a financial consultant who can help you thoroughly understand your options in this area and compare them to other choices you may have.

Investment advice is offered through Pete Mitchell, Inc. a registered investment advisor.com

Citations.

¹ mercurynews.com/columns/ci_14249188 [1/23/10]

² kiplinger.com/magazine/archives/2003/10/preferred.html [10/03]

This material was prepared by Peter Montoya Inc., and does not necessarily represent the views of the presenting party, nor their affiliates. This information should not be construed as investment, tax or legal advice.