Umbrella partnership real estate investment trusts (UPREITs) have become a popular option for investors who want to let go of direct property ownership while still maintaining diverse and liquid portfolios.
One popular type of UPREIT is a residential UPREIT, which offers access to investors looking to benefit from multifamily and single-family properties. Before you jump to enter this type of UPREIT, however, you should be aware of the opportunities and risks that come along with it.
Below, Realized 1031 has shared what you need to know.
What Are Residential UPREITs?
UPREITs are tax-deferred investment vehicles wherein you contribute your properties to the REIT in exchange for operating partnership (OP) units. This process is called the 721 exchange, and it allows you to defer capital gains taxes until a triggering event occurs.
A UPREIT can hold many properties, and in some cases, focus on one sector. As the name implies, residential UPREITs own multifamily or single-family properties. The REIT ensures the properties yield income and distributes the earnings to OP unit holders. This structure appeals to property owners who want continued upside exposure to real estate without the headaches of day-to-day management or the immediate tax burden of a sale.
Opportunities in Multifamily Residential UPREITs
Multifamily residential properties are often used as core assets in many residential UPREITs. These include apartment complexes and mixed-use developments. This popularity stems from the following advantages.
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- Stable Cash Flow: These assets typically generate consistent rental income due to diversified tenant bases.
- Economies of Scale: Managing multiple units under one roof is generally more cost-effective than managing scattered single-family homes.
- Urban Demand: There’s a growing demand for high-density housing, making apartment complexes and mixed-use developments highly sought-after in many markets and geographic locations.
- REIT Experience: There’s institutional backing for multifamily properties since many REITs have these assets as a core part of their portfolio. As a result, you can expect professional management and time-tested strategies that may help maximize earnings.
Opportunities in Single-Family Residential UPREITs
Single-family rentals (SFRs) are also experiencing a surge in demand after the events of 2020, with some demographics shifting housing preferences. UPREITs with SFRs offer unique advantages such as the following.
- Diverse Geography: SFR portfolios often span multiple markets, reducing regional risk.
- Strong Rent Growth: The high demand for SFRs has also resulted in strong rent growth, increasing the potential for maximum ROI.
- Suburban Appeal: Many families are opting for suburban living with more space, driving demand for single-family rentals.
Risks of Residential UPREITs
Entering a residential UPREIT has a few drawbacks that you need to keep in mind. Having this understanding helps you plan better for these possibilities.
Loss of Control
Since you’re contributing your property to the REIT, you lose direct control of it. This hands-off involvement may not be suitable for those who still want active management of their assets.
Liquidity Risk
OP units can be converted to shares, but the former can be locked in a holding period. Those who foresee future cash needs may find UPREITs illiquid during the first few years.
Tax Implication
Converting OP units to shares is a taxable event. Investors should consider timing things right to avoid getting a major tax hit.
Wrapping Up: Residential UPREIT Pros and Cons To Consider
Understanding the risks and opportunities in residential UPREITs is key to making the most out of this niche. When you know how to balance the tax deferral, professional management, and diversification benefits against the liquidity risks or loss of control, you can make residential UPREITs into a powerful investment tool.
Sources:
https://fortune.com/article/rent-prices-increasing-for-single-family-homes-zillow-report/
https://www.nytimes.com/2021/10/22/realestate/single-family-rentals.html
https://www.worldbank.org/en/topic/urbandevelopment/overview
