A real estate investment trust, or REIT, is a company that owns, operates, or finances income-producing real estate while meeting specific requirements under U.S. tax law. REITs allow investors to gain exposure to real estate through shares rather than buying buildings directly.
Publicly traded REITs can generally be purchased through a brokerage account like other publicly traded companies. Their underlying businesses, however, are tied to real estate, rental income, property values, financing conditions, or real estate debt.
How a REIT works
Most investors encounter REITs as companies that hold portfolios of real estate assets. Depending on the REIT, those assets might include apartments, warehouses, offices, shopping centers, hotels, healthcare facilities, self-storage properties, data centers, or other specialized real estate.
The company earns revenue from its assets, pays expenses and financing costs, and may distribute part of its income to shareholders as dividends. Because the shares of a publicly traded REIT trade on an exchange, investors can participate without directly managing tenants or properties.
This differs from buying a rental property yourself. Direct ownership gives the investor control over an individual property, but it also brings responsibilities such as financing, maintenance, insurance, taxes, and tenant management.
REIT qualification requirements
REIT is a tax status rather than simply a label for any real estate company. A company must satisfy a series of requirements to qualify under U.S. federal tax law.
Among the major requirements, a REIT generally must have at least 75% of the value of its total assets represented by real estate assets, cash, and certain government securities. It must also meet income tests involving real estate-related sources and distribute at least 90% of its taxable income, excluding net capital gain, to shareholders annually.
There are additional organizational and shareholder requirements. For example, after its first taxable year as a REIT, it generally must have at least 100 shareholders and must satisfy ownership concentration rules.
These requirements help explain why dividends are such a visible feature of REIT investing, but the 90% distribution rule should not be confused with a promise to pay a particular dividend yield.
Equity REITs vs mortgage REITs
Equity REITs
Equity REITs own income-producing properties. Rent and property operations are central to their business models.
Mortgage REITs
Mortgage REITs provide financing for real estate or invest in mortgages and mortgage-backed securities. Interest rates, spreads, leverage, and credit conditions can play a major role in their results.
Because these models generate income differently, investors should not assume that all REITs respond to the same economic conditions in the same way.
Publicly traded, public non-traded, and private REITs
REITs can also be classified by how investors access them.
| Type | How investors access it | Liquidity |
|---|---|---|
| Publicly traded REIT | Shares trade on a national securities exchange | Generally the most liquid of the three |
| Public non-traded REIT | Registered with the SEC but not exchange-traded | Often limited |
| Private REIT | Private offerings, generally available to a narrower group of investors | Typically limited |
For beginners, publicly traded REITs are often the easiest structure to understand because market prices are visible and shares can generally be bought or sold during normal trading hours. Non-traded and private REITs can involve different fee structures, valuation methods, disclosure requirements, and liquidity constraints.
Why do REITs pay dividends?
To qualify as a REIT, a company generally must distribute at least 90% of its taxable income to shareholders each year. That rule encourages substantial distributions, but it does not mean a REIT distributes 90% of its cash flow or that every REIT will offer a high dividend yield.
Taxable income and cash generated by a property portfolio are not identical. Real estate accounting includes depreciation and other non-cash items, while REITs also need capital for property improvements, acquisitions, debt repayment, and other business needs.
Dividend payments can therefore rise, fall, or be suspended depending on the company’s financial condition. A high yield can sometimes reflect a falling share price or concerns about the sustainability of the dividend.
How investors can earn a return from REITs
REIT shareholders can potentially earn returns from dividends and changes in the market value of their shares. The underlying properties may also appreciate or depreciate, but the share price can move differently from estimated property values over shorter periods.
For equity REITs, long-term business performance can depend on occupancy, rent growth, operating costs, property development, acquisitions, dispositions, and financing. For mortgage REITs, interest income, borrowing costs, leverage, credit quality, and changes in the value of mortgage assets can be more important.
You can learn more in our guide to how REITs make money.
Benefits of investing through REITs
- Accessibility: publicly traded REITs make it possible to invest in large real estate portfolios through a brokerage account.
- Liquidity: exchange-traded shares are generally easier to buy and sell than physical property.
- Income potential: distributions are an important part of the REIT structure.
- Professional management: investors do not personally manage the properties or mortgages in the portfolio.
- Real estate exposure: REITs can provide access to property sectors that would be difficult for many individual investors to own directly.
Risks of REIT investing
REITs are investments, not substitutes for guaranteed income. Property values can fall, tenants can leave or default, operating expenses can rise, and debt can become more expensive to refinance. Some property sectors are also sensitive to recessions, changes in consumer behavior, or new construction.
Interest rates matter because real estate businesses often use debt and because investors compare REIT yields with returns available elsewhere. Mortgage REITs can be especially sensitive to interest rates and leverage.
Our guide to REIT risks examines these issues in more detail.
Key takeaways
- A REIT is a company that meets specific U.S. tax requirements while owning, operating, or financing income-producing real estate.
- REITs generally must distribute at least 90% of taxable income to shareholders.
- Equity REITs own properties, while mortgage REITs focus on real estate financing and mortgage-related assets.
- Publicly traded REITs offer greater liquidity than direct property ownership, but their share prices can fluctuate significantly.
- Dividends are not guaranteed, and a high dividend yield does not automatically indicate an attractive or safe investment.