What Is a REIT?
A real estate investment trust, or REIT, is a business structure that makes money by owning or financing property. First legally created in the U.S. through the Real Estate Investment Trust Act of 1960, REITs do not pay any corporate income tax. Instead, these entities must pay out at least 90% of their otherwise taxable income to investors in the form of dividends.
U.S. REITs have flourished so much over the years that they’ve served as the model for more than 35 other countries around the world. For around six decades now, REITs have been offering the benefits of commercial real estate investments to all investors – benefits that were only available to wealthy individuals before through large financial entities.
Since 1960, the REIT approach to real estate investing has been refined, enhanced, and grown to a $1 trillion equity market. It represents nearly $3 trillion in gross real estate assets, with more than $2 trillion of that total coming from publicly listed and non-listed REITs. The remainder is from privately held entities.
That growth led, in part, to the creation of the new Real Estate headline sector in the Global Industry Classification Standard in 2016.
157 Total number of publicly traded U.S. equity REITs*
$1000 Total market cap (in billions) for U.S. equity REITs*
3.8% Dividend yield for U.S. equity REITs*
22.1% Total return year to date for U.S. equity REITs*
22.1% Durable dividend portfolio year to date.
6.1% Durable income portfolio average dividend yield
Why Invest in REITs?
- There are more than 200 REITs with a combined equity market capitalization of more than $1 trillion traded on U.S. stock exchanges.
- REITs are held by institutional and individual investors as well as REIT mutual funds and ETFs.
- Shares of listed REITs are bought and sold on major U.S. stock exchanges every day.
- REITs have historically provided investors an efficient way to diversify their investments to reduce risk and increase long-term returns
- REITs historically provided low correlation with the broader market and other assets.
- REIT returns have tended to zig while returns of other assets have zagged, smoothing a diversified portfolio’s overall volatility.
- Publicly-listed REITs must disclose financial information to investors and report on material business developments and risks on a timely basis.
- REITs provide investors with additional visibility into REITs’ finances and operations.
- Listed REIT reporting and disclosure is governed by the U.S. Securities & Exchange Commission, Generally Accepted Accounting Principles, and the various stock exchanges on which their shares trade.
- The IRS requires REITs to pay out at least 90% of their taxable income in the form of dividends.
- This means REITs provide higher yields than those typically found in the traditional fixed-income markets.
- The unique tax advantages offered by REITs can translate into superior yields for investors seeking higher returns with relative stability.
- REITs’ track record of delivering reliable and growing dividends, combined with long-term capital appreciation through stock price increases, has historically provided investors with total returns that are competitive with those of other stocks and higher than most fixed income investments.
- The compound annual total return on the FTSE-Nareit ALL Equity REITs index in the 25 years through January 2019 was over 10.3%, one full percentage point higher than the total return on the S&P 500 over the same period.
Tempting Real Estate Investment Trust Traits
Meaningful dividends are the most well-known – and tempting – trait to talk about when discussing REITs. But there are other requirements on the books. According to the U.S. Securities and Exchange Commission (SEC), a REIT must also:
- Invest at least 75% of its total assets in real estate
- Derive at least 75% of its gross income from real-property rental fees, interest on mortgages financing real property, and/or sales of real estate
- Pay at least 90% of its taxable income in the form of shareholder dividends each year (as previously mentioned)
- Be taxable as a corporation
- Be managed by a board of directors or trustees
- Have no less than 100 shareholders by the end of their first year
- Have no more than 50% of its shares held by five or fewer individuals.
Most REITs are traded on major stock exchanges, but there are those that are “public non-listed” or private.
The two main types of REITs are equity REITs – which offer rental property options to private and public individuals and groups – and mortgage REITs, which are commonly known as mREITs. Broken down to their simplest definition, mREITs lend money to real estate owners. This can come in the form of direct funding through mortgages or in a more indirect manner by buying up existing loans or mortgage-backed securities.
One other distinction to know about mREITs is their funding focus. There are residential mortgage REITs that exclusively deal with residential properties, others that deal exclusively with commercial properties, and those that provide financial options for both. This can make a difference in the income they bring in and the payments they give out.
Equity REITs, or eREITs, on the other hand, are more “traditional.” And the majority of their revenue comes right from the commercial real estate tenants or operators they sign on.
Equity REITs own or operate income-producing real estate – such as office buildings, shopping centers and apartment buildings – and lease the space to tenants. After paying the expenses associated with operating their properties, equity REITs annualy pay out the bulk of their income as dividends to shareholders. Equity REITs can also generate income from the sale of properties.
Mortgage REITs (aka, mREITs) provide financing for income-producing real estate by purchasing or initiating mortgages and mortgage-backed securities, and earning income from the interest. They help provide essential liquidity for the real estate market and typically focus on either the residential or commercial mortgage markets, although some invest in both RMBS and CMBS.
Hybrid REITs use the investment strategies of both equity REITs, which own properties, and mortgage REITs, which invest in mortgage loans or mortgage-backed securities. In practice however, most hybrid REITs are weighted more heavily to one type of investment or the other.
Private REITs are exempt from SEC registration and offer shares that do not trade on national stock exchanges. They are not subject to the same disclosure requirements as stock exchange-listed or public non-listed REITs.
These investment vehicles issue shares that are neither traded on national exchanges nor registered with the SEC, but rather issued according to one or more SEC-enacted and enforced exemptions to the securities laws (such as Regulation D).
Public Non-Listed REITs
Public non-listed REITs (aka, PNLRs) are registered with the SEC but do not trade on national stock exchanges. Like “regular” REITs, public non-listed REITs own, operate, and/or finance real estate and are subject to the same IRS rules. In addition, PNLRs are required to make regular SEC disclosures, including quarterly and yearly financial reports.
All of these PNLR filings are publicly available through the SEC’s EDGAR database.
You can invest in publicly traded REITs – as well as REIT mutual funds and REIT exchange-traded funds (ETFs) – by purchasing shares through most brokers and financial advisors. But when dealing with non-listed REITs, you’ll have to find a broker or financial advisor who specifically participates in those offerings.
REITs are also included in a growing number of defined-benefit and
defined-contribution investment plans.
According to Nareit, a REIT-specific research firm, an estimated 80 million
U.S. investors own REITs through their retirement savings and other investment