What a Real Estate Investment Trust Is

A Real Estate Investment Trust, or REIT, is a company that owns and operates income-producing real estate. Instead of buying a building yourself, you buy shares in a REIT the way you would buy stock in any other company. The REIT collects rent from tenants, collects fees from borrowers, or sells properties, then distributes most of that income to shareholders as dividends.

REITs exist because of a 1960 federal law that created them as a way for ordinary investors to own real estate without having to buy whole buildings. A REIT must own real property (not just lend money on it, though some do both), and it must distribute at least 90 percent of its taxable income to shareholders each year. In exchange, the REIT itself pays no corporate income tax — the tax burden moves to you as a shareholder.

You can buy REIT shares through a brokerage account the same way you buy any stock. Some REITs trade on major exchanges like the New York Stock Exchange; others are traded over-the-counter or sold privately. The price of a share moves based on what investors are willing to pay, not necessarily on the value of the buildings the REIT owns.

Key Takeaways

  • A REIT is a company that owns real estate and pays out most of its income to shareholders as dividends, which you receive as ordinary income and must report on your taxes.
  • REITs own apartments, office buildings, shopping centers, warehouses, hotels, data centers, and other properties that generate rent or fees.
  • You can buy REIT shares through a regular brokerage account, and the share price changes based on investor demand, not the actual value of the buildings.
  • REITs are required to distribute 90 percent of taxable income to shareholders, which makes them higher-dividend investments than most stocks but also more tax-heavy for individual investors.
  • The return you get depends on both the dividend the REIT pays and whether the share price rises or falls while you own it.

Types of Properties REITs Own

REITs specialize in different kinds of real estate. An apartment REIT owns residential rental buildings. An office REIT owns commercial office space. A retail REIT owns shopping centers and standalone stores. A industrial REIT owns warehouses and distribution centers. A hotel REIT owns and operates hotels. A healthcare REIT owns medical office buildings, senior housing, and hospitals.

Newer categories have emerged as real estate use has changed. Data center REITs own the buildings that house computer servers for cloud storage and internet services. Self-storage REITs own storage unit facilities. Some REITs own a mix of property types; others focus on a single category.

The type of property matters because it affects how stable the income is and how sensitive the REIT is to economic downturns. Apartment REITs tend to be more stable because people need housing in good times and bad. Retail REITs were hit harder during the pandemic because stores closed. Office REITs have faced pressure as companies shifted to remote work. Industrial and data center REITs have grown because of increased online shopping and cloud computing.

How REITs Make Money and Pay Dividends

A REIT makes money the same way a landlord does: it collects rent from tenants and keeps the difference after paying operating costs, maintenance, property taxes, and debt service. Some REITs also make money by lending money to real estate developers and collecting interest. Others buy and sell properties for a profit.

The REIT then distributes at least 90 percent of its taxable income to shareholders as a dividend. This is different from most stocks, where companies keep most earnings and reinvest them in the business. Because REITs must pay out so much, they typically offer higher dividend yields than the overall stock market. A REIT dividend might be 3 to 6 percent per year, while the average stock dividend is closer to 1 to 2 percent.

Your total return as a REIT shareholder comes from two sources: the dividend you receive, and any change in the share price. If you buy a REIT share for $50 and it pays a $2 annual dividend, you get a 4 percent dividend yield. But if the share price falls to $45 by the end of the year, your total return is negative even though you received the dividend. The opposite is also true — if the share price rises to $55, your total return is much higher than the dividend alone.

How REIT Dividends Are Taxed

REIT dividends are taxed as ordinary income, not as capital gains, even if the dividend comes from the REIT selling a property at a profit. This means your REIT dividends are taxed at your regular income tax rate, which is usually higher than the capital gains rate. If you are in the 24 percent federal tax bracket, a $1,000 REIT dividend costs you $240 in federal tax, whereas a $1,000 capital gain might cost you only $150 (at the 15 percent long-term capital gains rate).

This tax treatment makes REITs less attractive in taxable accounts but more attractive in tax-deferred accounts like an IRA or 401(k), where you do not pay tax on dividends until you withdraw the money. Many investors hold REITs in retirement accounts for this reason.

When you sell a REIT share, any gain between what you paid and what you sold it for is taxed as a capital gain. That gain is separate from the dividends you received along the way.

Publicly Traded vs. Non-Traded REITs

A publicly traded REIT trades on a stock exchange or over-the-counter market. You can buy and sell shares any trading day at the market price. The share price moves constantly based on investor demand. You can see the price any time during market hours and sell your shares quickly if you need the money.

A non-traded REIT does not trade on an exchange. It is sold by brokers or financial advisors, usually with a sales commission of 7 to 10 percent built into the price. You cannot easily sell your shares — most non-traded REITs have a limited redemption program where you can sell back a small percentage of your shares each year, but you may wait years to get your full investment back. Non-traded REITs are less transparent about their holdings and performance, and they charge higher fees.

For most individual investors, publicly traded REITs are simpler and lower-cost. Non-traded REITs are typically sold to wealthy investors or through retirement accounts, and they require more patience and tolerance for illiquidity.

Risks and Downsides of REIT Investing

REITs are sensitive to interest rates. When the Federal Reserve raises interest rates, borrowing becomes more expensive for REITs, which reduces their profit margins. Higher rates also make bonds and savings accounts more attractive to investors, so they may sell REIT shares to move money elsewhere. This can push REIT share prices down even if the underlying properties are performing well.

REITs are also sensitive to the health of the economy and the specific sector they operate in. A recession can reduce occupancy rates and rental income. A shift in how people work or shop can hurt office or retail REITs. A rise in remote work has pressured office REITs for years. A surge in online shopping has hurt some retail REITs but helped industrial REITs.

REIT shares can be volatile. The share price can swing significantly in response to interest rate changes, economic news, or shifts in investor sentiment. If you need your money in the near term, a downturn in REIT prices could force you to sell at a loss. REITs are generally better suited to investors with a longer time horizon.

The high dividend payout also means REITs reinvest less in growth. A REIT cannot easily expand its portfolio or upgrade its properties the way a company that retains earnings can. This can limit long-term appreciation of the share price.

How to Buy REIT Shares

To buy publicly traded REIT shares, you need a brokerage account. You can open one with a major broker like Fidelity, Vanguard, Charles Schwab, or many others. Once your account is funded, you can search for REIT ticker symbols and place a buy order just as you would for any stock.

You can also buy REITs through a mutual fund or exchange-traded fund (ETF) that holds multiple REITs. This gives you instant diversification across different property types and different REIT companies. An ETF that tracks the MSCI US REIT Index or the Dow Jones US Real Estate Index will hold dozens of REITs in a single fund.

If you want to buy a non-traded REIT, you typically work with a financial advisor or broker who sells them. Be aware of the sales commission and the limited liquidity before you commit.

Frequently Asked Questions

Do I have to hold a REIT for a certain amount of time?

No. You can buy and sell publicly traded REIT shares any trading day. There is no holding period. Non-traded REITs are different — they have limited redemption windows and you may not be able to sell your full position for years.

Can I lose money investing in a REIT?

Yes. The share price can fall if interest rates rise, if the economy weakens, or if the specific sector the REIT operates in falls out of favor. You can also lose money if you sell when the price is lower than what you paid, even if you received dividends along the way.

Are REITs safer than owning rental property directly?

They are different risks. With a REIT, you own shares that can be sold quickly but whose price fluctuates. With direct property ownership, the value is more stable but you cannot sell quickly, you have to manage tenants and maintenance, and you need significant capital upfront. REITs are more liquid; direct ownership is more stable.

What happens to my REIT dividends if the REIT loses money?

A REIT must still distribute 90 percent of taxable income to shareholders by law. If the REIT is losing money, it may cut or suspend the dividend. This is rare for established REITs but can happen during severe downturns or if the REIT made poor acquisition decisions.

Should I hold REITs in a retirement account or a regular account?

Retirement accounts are usually better because REIT dividends are taxed as ordinary income. In a tax-deferred account like an IRA or 401(k), you avoid that tax until you withdraw. In a regular taxable account, you pay tax on the dividend every year, which reduces your after-tax return.