Two ETF Strategies to help inflation proof your investment income. Part 2.

PART 2: Real Estate Investment Trusts (REITs)

In addition to Dividend Growers as a means to inflation proof your investment income, Real Estate Investment Trust (REIT) ETFs offer another option. REITs are companies that invest in a wide variety of real estate, including shopping centres, office buildings, retirement residences, hotels, apartment buildings, and industrial/warehouse buildings. REIT ETFs offer a way to invest in a variety of REITs, benefit from their reasonable distributions, and obtain diversification both geographically and by asset type. What I like best about them is that you can earn both the income and capital gains from real estate, without having to worry about managing physical properties. And over time, REITs have been shown to provide as much return as owning individual properties, with none of the hassles. For those of us who hate having to deal with broken toilets or leaky roofs, or deadbeat tenants, that is a big plus.


grayscale photo of concrete building

Apartment buildings are popular REIT holdings

There are four main REIT ETFs available in Canada. Three are index trackers and one (RIT) is an actively managed fund.

XRE (IShares)               MER  .61%   Yield  4.5%

ZRE (BMO)                     MER  .61%    Yield  4.7%

VRE (Vanguard)           MER  .39%     Yield  3.3%

RIT (First Asset/CI)     MER  .93        Yield  4.9%   Actively Managed

Over both a three and five year period, RIT the actively managed ETF has outperformed the other three, returning 25% and 40% plus yield. (But is lagging over the past twelve months). There is nothing wrong with active management at a reasonable cost, and in this case it seems to prove that in certain specific asset sectors, active management can outperform the index over time.


REIT Graph

Note however that REIT distributions are more complex then those from Dividend Grower ETFs, as they are often composed of dividends, capital gains, return of capital, and other income, each of which attracts a different tax rate. Return of Capital (RoC) does not attract any tax in the year it is declared, but only when the underlying security is sold, as it reduces the Average Cost Base of the security by the amount of the RoC. Here are the distributions for 2017 and 2016 for RIT as an example:

                 Total         Div    CapGain   RoC   Other

2017           .81           .39       .39            .02       .01

2016           .99           .19       .67                         .13

As you can see, there is a lot a variation in the type of income that is generated. To avoid dealing with this complexity, and in particular the RoC calculations that would be required when the security is eventually sold, one solution is to hold REIT ETFs in your TFSA. That way you get the income and the capital growth, and can ignore all of the complicated tax situations.


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