Office REITs

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Last Updated:December 7, 2023

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What are Office REITs?

A real estate investment trust, also known as a REIT, is a private or public company that runs a fund or multiple funds that invest money in real estate on behalf of the shareholders. Examples of REITs are American Tower, Prologis, etc.

Office REITs are REITs (real estate investment trusts) that focus on building, managing, and maintaining office space leased to companies that need office space. Large office REITs are Boston Properties, Vornado Realty Trusts, etc.

Office buildings can range in many different types, from skyscrapers to warehouses in places with high demands for office spaces, and most of their tenants are large corporations like law firms, banks, tech companies, NGOs, etc.

Like many other REIT types, these REITs are listed on the stock exchange, and investors can buy REITs shares.

Key Takeaways

Office REITs are real estate companies that own and manage office buildings, which they lease to companies and individuals.
They focus on leasing office space to specific clients, such as law firms, banks, government agencies, etc.
These specialize in leasing office space in central business districts and suburban areas with high demand for office space.
Investing in an office, REIT benefits potential tax advantages and substantial dividends.
There are three leading indicators when looking for an office REIT to invest: occupancy rates, funds from operations, and yields of dividends.

How does Office REITs work?

Most office REITs concentrate on a particular property type, tenant, or area. Multi-tenant office buildings in core business areas are the focus of certain office REITs.

These locations often demand significant office space, allowing office REITs to maintain high occupancy rates and profit from growing rental prices.

Other office REITs might focus on one big client and build a large office campus. They often lease the whole space to a single tenant under a long-term triple-net lease.

They can also cater to office buildings to fit the specific needs of those tenants, like tech companies or government agencies.

Many office buildings can also generate revenues besides leasing office space from parking fees, observatories, and retail spaces.

The investors can buy shares from REITs from the stock exchange and produce a steady income stream for themselves. The rent payable and other sources of revenue are used to cover the expenses; the rest will be distributed back to the shareholders via dividends.

Benefits from Investing in Office REITs

Like investing in mutual funds on the public stock market, there are many advantages when investing in an Office REIT. These benefits include:

1. Potential tax advantages

Even though REITs must pass through many legal hurdles, they get several tax breaks that regular corporations do not.

First, as long as they comply with specific rules, REITs are exempt from paying corporation taxes, such as distributing the majority of net income to shareholders in the form of dividends.

Before they may distribute earnings as dividends to shareholders, non-REIT firms must first pay corporation taxes and other taxes.

The REIT income is taxed only after the dividends have been distributed to the shareholders. Shareholders must report and pay any taxes owed to the appropriate taxing authorities.

2. Substantial dividends

Having many tax exemptions, shareholders are distributed more money when receiving dividends.

By law, REITs must also distribute 90% of their net revenue to shareholders to ensure that dividend payments will continue as long as the business is profitable.

Since most businesses rent offices they intend to occupy in the long run; office buildings often have a relatively low turnover rate. It guarantees ongoing revenue for REITs that specialize in office properties.

Investing Metrics

There are many office REITs, each focusing on a different type of strategy and area of focus. For example, some might put money into areas with high population densities.

Some focus on suburban areas. Investors should consider the following indicators when deciding which office REITs to invest in.

1. Occupancy Rate

This is the most important metric since this shows how profitable the REITs are. Since most of the revenue comes from the rent payable, a low occupancy rate means a low return and vice versa. Therefore, this can translate into the level of income the investors receive.

2. Funds From Operations

Investors evaluate a company; earning per share is a standard metric. However, this way of evaluating is not suitable for REITs since this does not accurately reflect the income earned by investment trusts since there are other indicators like depreciation cost.

That is why another indicator called FFO (funds from operations) allows us to evaluate the investment precisely.

FFO begins with the net income, subtracts the depreciation and impairment charges, adds them back in, and then makes an adjustment to take out one-time effects like the gain or loss on the sale of assets and other adjustments.

The earnings from a REIT's ongoing activities are displayed in the net value of the FFO.

3. Dividend Yields

Investors use this metric to compare different office REITs to see what can produce the most income. The dividend yields are obtained by taking the annual dividend disbursements and dividing them by the price of the company's shares.