Real Estate Investment Trust (REIT)
What is a real estate investment trust (REIT)?
Updated March 7, 2022
A real estate investment trust (REIT) is a company created by individuals that allows them to invest in income-producing real estate. It is an ideal option for those who want to earn a percentage of income from owning commercial real estate without having to actually purchase any properties. Examples of real estate that can be acquired as part of a REIT: apartment complexes, hotels, office buildings, healthcare facilities, shopping malls, data centers warehouses, self-storage facilities and resorts, as well as infrastructure (i.e. cell towers, energy pipelines).
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Through a REIT, individuals can own, operate and finance these properties, but not with the purpose of resale. The purpose of a REIT is to buy and develop real estate properties as part of an investment portfolio. The income generated from the properties that make up a REIT’s portfolio are distributed as dividends to shareholders.
REITs are an ideal option for those who want to earn a percentage of income from owning commercial real estate without having to actually purchase any properties. Credit:Firmbee/Unsplash
Similar to mutual funds, REITs allow multiple investors to pool their funds, so that individual investors can earn dividends from the real estate investments without having to be involved in purchasing, operating or financing any of the properties.
REITs tend to specialize in a particular kind of real estate. But there are cases when REITs have investments in more than one kind of real estate, such as holding both retail and residential properties.
Those interested in investing in a REIT can do so by purchasing shares through a broker of a nontraded REIT who is a participant in that offering. Investments in REITs can also occur by purchasing shares of a publicly traded REIT listed on a major securities exchange, also through a broker. In this case, investors can buy and sell them as if they were stocks during the trading session. Because REITs tend to trade at great volume, they are considered to be highly liquid. Many publicly traded and nontraded REITs are registered with the Securities and Exchange Commission (SEC).
As established by the Internal Revenue Code (IRC), the following requirements must be met to qualify as a REIT:
- The REIT must have at least 100 shareholders one year after it was created.
- A maximum of 50% of all shares must be held by no more than five individuals.
- At least 75% of the total assets must be invested in cash, real estate properties or U.S. Treasuries.
- At least 75% of the gross income must come from real estate sales, or the rents and the interest and mortgages that finance the property.
- A minimum of 90% of taxable income must be annually paid out via dividends to shareholders.
Types of REITs
- Equity REITs: The most popular kind of REITs, with income largely generated through rents and not the resale of properties.
- Mortgage REITs: This type of REIT earns income from interest on the money lent to property owners.
- Hybrid REITs: This combination of equity REITs and mortgage REITs derives its income from both rent and interest.