There’s a general feeling amongst market commentators that the time is right to invest in property. Whilst most of us are aware of the buy-to-let sector, we don’t tend to think about commercial holdings. Buying a house is within reach for many investors, but buying a city centre car park isn’t. That’s where collective investments come in.
These funds either own properties outright, awarding returns based on rental income and increases in the value of the buildings (direct investment), or trade shares in property companies listed on the stock exchange (indirect investment).
With direct (‘bricks and mortar’) investment funds, the returns come from the increased value of the properties, plus rental income. In the UK, the average lease on a commercial property is 8 years, and rents will typically increase at the same rate as inflation. Furthermore, commercial property tends not to be linked to assets such as cash, fixed income and bonds, meaning that a hiccup on the stock market shouldn’t affect their value. Investors don’t have the hassle of sourcing and managing the properties, nor do they have to find tenants or negotiate leases. It can take months to buy or sell a commercial property, however, which makes it difficult to redeem your holding at short notice.
There are risks associated with direct property investment. In 2008, when America’s sub-prime mortgage crisis sent waves of panic around the world, the value of some commercial property funds in the UK fell by up to half.
Indirect investment funds are even more vulnerable to the whims of the market as they don’t enjoy the same benefits of diversification. Most take the form of unit trusts and open-ended investment companies (OEICs).
Property investment funds can be either open-ended or closed-ended. Open-ended investments may issue or redeem any number of units (in the case of unit trusts) or shares to their members at any time; the underlying assets are simply added to or sold off according to demand. This can lead to problems if someone wants to exit at a time when the value of assets is low.
Most open-ended trusts are also registered as real estate investment trusts (REITs). This ensures higher returns to investors, but the tax on dividends will be 20 per cent basic or 40 per cent for higher rate earners.
Closed-ended investment trusts, on the other hand, issue a fixed number of shares when they’re created. Members buy and sell shares on the stock market, ensuring that the fund manager always has a set amount of money at their disposal. Investment trusts can also take advantage of gearing to boost returns. The tax on dividends is either 10 or 32.5 per cent.
Commercial property prices are now recovering after the sub-prime mortgage crisis of 2008, and an increase in revenue from rents is expected as economic conditions improve. Furthermore, the recent lack of investment in property should increase the value of existing buildings.
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