Buy-to-let landlords are feeling the pinch, as changes in the tax treatment of residential property investment have made it much less attractive. However, buying housing isn’t the only way of putting your money to work in bricks and mortar. Commercial property is an attractive investment, whether accessed directly or through funds, delivering high yield as well as the potential for long-term capital growth.
The easiest way for private investors to put their money into commercial property is through a collective investment fund; few individuals have enough money in their bank account to buy a business park or office tower. Investing in funds is easy, either through a fund platform or via a stockbroker. However, investors need to clearly understand the kind of fund they’re putting their money into.
There’s a big difference between funds which invest directly in property and those that invest in the shares of property companies. A fund which invests in property company shares can move its money very quickly, but its price will probably reflect moves in the stock market rather than the underlying value of the properties.
Funds can also be structured in two different ways, either as open-ended funds (OEICs) or closed-ended funds (investment trusts, including REITs). An open-ended fund issues fresh units to investors when they buy and purchases the units back with cash if they want to sell; the price is set according to the value of the assets that the fund holds, less a percentage for costs. If a large number of investors want to sell, as happened during the credit crunch, the fund may not have enough cash to pay out and will either have to sell some of its properties or suspend redemptions. That may mean investors can’t get their money out.
Closed-ended funds, on the other hand, are set up with a limited number of shares, just like a trading company, and investors buy and sell shares in them on the stock market. Consequently, the price will rise and fall according to demand for the shares. Arguably this is a better structure for a company investing in properties, since there is no need to raise cash if investors want to sell. However, since such funds may trade at either a discount or a premium to the value of the assets they hold, the value of the shares may fall if sentiment towards the sector changes. Property investment trusts have traded at as much as a 30 percent discount to book value but have also recently traded at a premium as investors looking for sustainable income have targeted the sector.
Closed-ended funds can also use debt to finance their investment. That makes them higher risk than open-ended funds, which are not allowed to borrow. While highly indebted REITs can present an opportunity for high returns in the event of a successful turnaround, only experienced investors who are willing to do their own research should take that chance. A portfolio focused on long-term income growth should exclude any companies whose balance sheets look stretched, or where debt service costs are more than half the total rent roll.
Both types of funds pay regular dividends; the yield on such investments is generally higher than on other shares and funds. Because commercial leases are generally long-term, the dividends are also reasonably secure. REITs are legally obliged to pay a certain percentage of their earnings out in dividends; management cannot decide to cut the dividend below that level. By picking a basket of five or six different funds, investors can create a portfolio that generates steady income and is diverse enough to reduce overall risk.
Commercial property funds have another big advantage for the investor over residential property; they can be held in a tax-efficient wrapper such as an ISA or SIPP, so that no tax becomes payable on either dividend income or eventual capital gains. Investing through a fund rather than buying property directly is also hassle-free since there is no need to deal with tenants or to pay a managing agent.
Investors who are looking for a good income stream from property have traditionally focused on residential property. As the government turns the screw on buy-to-let landlords, it’s time to look at commercial property instead, and benefit from its more generous tax treatment.
By Phillip Geourgiou
To contact the publisher: phillip@phillipgeourgiou.com
The post Investing in Commercial Property Funds appeared first on Home Business Magazine.
source https://homebusinessmag.com/hbm/investing-in-commercial-property-funds/
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