How to invest in Malaysia REITs for passive income – a beginner’s guide (2024)

Real estate investment trusts (also commonly known as REITs) are required to pay 90% of their earnings back to unitholders in the form of dividends in order to be exempted from income tax. This means that the yield for REITs is usually higher than other listed companies and makes them an ideal vehicle for passive income. Malaysian REITs can fetch a relatively high yield, ranging between 5-8%every year in addition to potential capital gains.

While it is true that REITs are a great addition to building a high-yield income portfolio, you still need to pick the right ones and buy them at the right price in order to grow your money (and dividends).

We’ll be addressing that here today in this article.

So what are REITs?

REITs are funds that pool investors’ money together to buy and own income-producing properties. These properties are income producing because they are leased out to tenants who pay the REIT rental income. As an investor, you are entitled to receive a share of this rental income.

Like property investors, REITs can acquire new properties, enhance and improve existing rental space, or increase rental rates to grow their rental income. As mentioned earlier, since REITs are required to pay the majority of their earnings, you as an investor get to enjoy a relatively high dividend without ‘lifting a finger’.

Ever been to Pavilion KL? Pavilion KL is owned by Pavilion REIT. If you remember, Pavilion KL used to be a single building. In 2016, an extension called Elite Pavilion Mall was built and later on injected into the REIT, thereby increasing the REIT’s net lettable area by 11% and attracting tenants such as ABC Cooking Studio, Coach, Haidilao Hot Pot, etc.

With more tenants paying rent, it means that more rental income is being earned by the REIT. This also means that more income will be distributed back to you as a unitholder. In a nutshell, that’s how REITs work. Today, there are a total of 17 REITs in Malaysia, each of them with different properties including malls, offices, hotels, factories, etc.

The value of property in Malaysia continues to appreciate over the long term. As Malaysia maintains itself as an oil and gas, electrical and electronics, and manufacturing hub as well as a popular tourist destination, REITs are a good proxy for the Malaysian property market. Of course, the business environment has to be friendly too.

Malaysia REITs vs owning a physical property

So why Malaysian REITs? Why not own and invest in a physical property yourself instead?

From a REIT investor’s standpoint, there are several key benefits compared to owning your own physical property:

1. Low starting capital

Owning a property requires a much higher starting capital. REITs, however, give retail investors the chance to get into the property market ‘cheaply’. For example, you can easily get started for as low as RM140 (e.g. 100 shares or one lot of Sunway REIT as of September 2021) compared to forking out a hefty five or six-figure sum for a physical property just for the down-payment alone.

2. High liquidity

Because REITs are traded on a exchange like any other stock, they are very liquid. If you want to sell your property, it will take time to find a buyer, negotiate the price, and you may even need to wait for the property cycle to recover. The whole process can take months or years to get a decent deal.

On the other hand, millions are transacted every single day on the stock market. This means that you can buy shares in a REIT today and sell the next.

3. Diversified risk

Another key advantage when it comes to REITs is that you are not investing in a single property or two, but multiple properties leased to a wide base of tenants. This diversifies and reduces your tenant risk.

When you manage your own physical properties, you need to find tenants by yourself. However, there will be times when it’s hard to find any (like during the pandemic) and you may end up with an empty property. And if you’re still servicing the mortgage, you go into negative cash flow.

With REITs, that concentrated tenant risk is pretty much mitigated. While some tenants may end their lease, the REIT will normally have new tenants ready to take their place especially if their properties are in a good location with strong demand.

3. Tax incentives

Whenyou sell or lease your property in Malaysia, those earnings are subjected to either real property gains tax (RPGT) or income tax of up to 30% (depending on the type of property).

REITs, however, are exempted from RPGT, stamp duty, as well as the normal 24% corporate tax rate if it distributes at least 90% of its distributable income to investors as dividends. Because of this, REITs earn a higher income and investors get to earn higher yields versus physical properties. (But do note that distributions from Malaysian REITs to individual investors are subject to a 10% dividend withholding tax.)

4. Hassle-free

When it comes to property maintenance and the need to deal with tenant requests, the REIT manager basically takes care of it all — finding tenants, advertising, cleaning, utilities, etc. Everything.

Now obviously, it’s not to say that investing in physical property is bad deal. Many Malaysians still love to invest in physical properties. The one advantage of buying a physical property is that you can get a mortgage loan on doing so. Using debt to own a property can boost your returns. However, debt is a tool that you need to manage properly at all times. (We’ve all heard of property investors who go bust by overextending themselves buying too many properties.)

So if you prefer not to invest using debt, REITs are one of the best vehicles to build a passive income portfolio that grows steadily over time. They are a solid investment if you want a piece of Malaysia’s property pie.

Here’s a look at the returns of some Malaysian REITs since their respective IPOs:

So if you’re interested in owning REITs, how do you pick the best REITs to invest in?

All REITs are not created equal

Which is why you can’t use a one-size-fits-all approach to look at them as a whole. For example, healthcare REITs (which typically own hospitals and medical facilities) are relative stable compared to office REITs which are affected by the economic cycle and office demand. This is why it is important to know what sector a REIT falls under and compare it to its peers.

There are basically five types of REITs along with a Shariah-compliant sub-category:

Retail

As a Malaysian, it is almost impossible to miss retail REITs. Retail REITs own and manage malls in Malaysia. For example, IGB REIT, which owns Mid Valley Megamall and The Gardens Megamall; or Pavilion REIT which owns Pavilion Kuala Lumpur Mall, Elite Pavilion Mall, Intermark Mall and DA MEN Mall.

If you are new to REITs and want to dip your toes in the water, then you can start looking at Malaysian retail REITs since they are probably the easiest to understand as we visit our favourite malls almost every weekend.

Office

Office REITs focus on office buildings and earn their income through leasing their office space to businesses. Examples of office REITs in Malaysia include UOA REIT which owns UOA Centre, UOA II, UOA Damansara, UOA Corporate Tower; and Tower REIT which owns Guoco Tower, Menara HLX, and Plaza Zurich.

When office supply is low, rental rates are high. When there is an oversupply of office space — which has been currently going on for a few years in Malaysia — rental rates can be depressed. Thus, if you are investing in office REITs, then it is important to know where in the cycle we are in as well as the overall state of the economy.

Hospitality

Hospitality REITs own hotels and serviced residences. They earn their income by leasing their properties to a hotel operator and/or through the booking of hotel rooms and long-term stays.

YTL Hospitality REIT is the only listed pure play hospitality REIT in Malaysia. It owns a number of prime hotel properties including JW Marriott Hotel Kuala Lumpur, Hilton Niseko Village, Sydney Harbour Marriott.

Healthcare

Healthcare REITs own hospitals, medical facilities, and nursing homes. They earn rent through leasing their buildings to hospital/nursing home operators and medical tenants. Healthcare REITs are known for their stability. Regardless of how the economy is doing, healthcare is still a necessity. However, due to their popularity among investors, healthcare REIT yields are typically lower.

Anexample of a hospitality REIT in Malaysia include Al-‘Aqar Healthcare REIT which owns hospitals, wellness/health centres, colleges, and an aged care and retirement village. Their properties include KPJ Ampang Puteri Specialist Hospital, KPJ Healthcare University College, and Nilai, Jeta Gardens Aged Care and Retirement Village.

Industrial

Industrial REITs own industrial buildings such as factories, warehouses, logistics and distribution centres. Examples of industrial REITs include Axis REIT, Atrium REIT, etc. Industrial REITs tend to have the highest yields among all the REITs. This is mainly due to the fact that land leases of industrial properties are a lot shorter.

Shariah-compliant REITs

Currently, there are four Shariah-compliant REITs in Malaysia. In order to be qualified as one, more than 80% of a REIT’s income has to come from Shariah-permissible activities. In addition, a Shariah committee or advisor will be hired to advise the REIT on Shariah matters.

Now that you know the different sectors, the next step is to consider what to look at when evaluating a REIT.

How to pick the best REITs to invest in

When it comes to picking the best REITs to invest in Malaysia, you can’t just look at dividend yield alone. You need to assess the quality of the properties a REIT owns, and if the REIT has concrete plans to continue growing its distribution per unit.

Here’s a quick breakdown of five metrics you need to pay attention to when it comes to picking a REIT:

1. Property yield

Property yield is the amount of income a REIT can generate from a property. The higher the property yield, the better. It shows that the REIT is able to generate higher rental incomes from its properties. As an investor, you want to look for stable or growing yield.

2. Cost of debt

Cost of debt is basically the average weighted interest rate a REIT pays for its borrowings. The lower the cost of debt, the lower the interest a REIT pays. Different sectors normally will have different costs of debt. For example, the cost of debt for retail REITs will be different from industrial REITs. As an investor, you want to compare a REIT’s cost of debt within its sector. The lower the cost of debt, the better.

3. Gearing ratio

The gearing ratio is calculated as a REIT’s total amount of debt over its total assets. The higher the ratio, the more debt a REIT has. In Malaysia, REITs are only allowed to borrow up to50% of their total assets (the limit has been temporarily increased to 60% until the end of 2022).

We prefer REITs with a gearing ratio of less than 40% because it allows the REIT to have a buffer for more loans in case it needs to borrow to make an acquisition. A lower gearing ratio also points to a REIT that’s more conservative and careful when it comes to deploying debt for growth.

4. Price-to-book ratio

The P/B ratio measures a REIT’s share price against its net asset value per share. A P/B above 1.0 theoretically means that the REIT is overvalued compared to its net assets, whereas a P/B below 1.0 means that the REIT is undervalued.

However, as an investor, you should not rely on this ratio to make your buy/sell decisions. For example, certain REITs may consistently trade above their net asset value due to the quality of their assets, management team, and track record of paying steady distributions. Instead, what you can do is to compare a REIT with its historical P/B averages to assess if a REIT is over/undervalued.

5. Distribution per unit

One of the biggest mistakes new investors make when it comes to investing in REITs is that they tend to focus on dividend yield alone. In general, the higher its yield, the more attractive a REIT. However, this isn’t always the case. Some REITs trade at high yields due to a depressed share price because the market finds them unattractive.

Instead, what you want to focus on instead is whether a REIT can consistently grow its distribution per unit (DPU). This is a healthier indication of a REIT’s ability to grow its dividends, leading to higher a yield-on-cost over the long haul.

If you’re interested in updated table of these metrics for Malaysia REITs, you can go to Malaysia REIT data 📊

If you’d like to learn more, you can also watch a video presentation of these five metrics using real-life examples here: How To Invest In REITs For Passive Income – 5 Secrets 📺

Malaysia REIT analysis and updates

Tohelp ease your time, we have also compiled a list of Malaysian REITs we’ve covered over the years:

• Axis REIT
• IGB REIT
• Hektar REIT
• KLCCP Stapled Group
• Pavilion REIT
• Sunway REIT
• Tower REIT
• UOA REIT
• YTL Hospitality REIT

Malaysian REITs are attractive because of their relative high yields. But it is important to remember that a high yield alone doesn’t necessarily make a REIT a good investment.

You want to evaluate a REIT based on other important factors and its ability to continually grow its DPU. This way, not only will you see your dividend increase over time; you’ll also get to enjoy decent capital gains as the REIT continues to grow and perform over the long term.