Quick Answer
A REIT is a company that owns, operates, or finances income-producing real estate and must distribute at least 90% of taxable income as dividends. That distribution is generally taxed as ordinary income, not at the lower qualified dividend rate. Exchange-listed REITs are liquid; non-traded REITs carry much higher liquidity and valuation risk.
The final category of pooled investments in this unit focuses on real estate. REITs give investors access to income-producing real estate without directly owning property, but the type of REIT matters significantly for liquidity and risk.
What Is a REIT?
A real estate investment trust (REIT) is a company that owns, operates, or finances income-producing real estate.
Key requirements:
- Must distribute at least 90% of taxable income as dividends to shareholders
- This distribution requirement is a defining feature of REIT status and provides the tax advantage, alongside other IRS organizational, income, and asset qualification rules
Tax treatment:
- REIT dividends are generally taxed as ordinary income (not qualified dividends)
- Even though REITs pay high dividends, investors do not get the lower qualified dividend tax rate
Exam Tip: Gotchas
- The 90% distribution requirement applies to ALL REITs: both exchange-listed and non-traded. This is the defining feature of a REIT, regardless of how it trades.
- REIT dividends are generally taxed as ordinary income, not at the lower qualified dividend rate. High yield does not mean favorable tax treatment.
Exchange-Listed REITs
Exchange-listed REITs (also called publicly traded REITs) share many characteristics with stocks:
- Trade on major stock exchanges (NYSE, Nasdaq)
- Liquid: Can be bought and sold throughout the trading day
- Transparent pricing: Market price is publicly available in real time
- Subject to market volatility: Prices fluctuate with the broader stock market, not just the underlying real estate values
Non-Traded REITs
Non-traded REITs are registered with the SEC but do not trade on any exchange. They carry significantly higher risks.
- Illiquid: Cannot be easily sold; there is no exchange listing, and any secondary market is very limited
- Difficult to value: Without a trading market, the true value of shares is uncertain
- High upfront fees: Sales commissions and offering fees often represent a substantial percentage of the investment
- Limited or no redemption: Investors may not be able to get their money back for 10+ years
- Distributions may mislead: Non-traded REITs sometimes pay distributions from offering proceeds or borrowings rather than from actual real estate income, which reduces share value over time
Exam Tip: Gotchas
- Non-traded REITs are registered with the SEC (they file disclosures), but they do not trade on any exchange. "Registered" does not mean "listed."
- High distributions from a non-traded REIT are not necessarily a good sign; they may come from investor capital, not property income.
Exchange-Listed vs. Non-Traded REITs
| Feature | Exchange-Listed REIT | Non-Traded REIT |
|---|---|---|
| Trades on exchange | Yes | No |
| Liquidity | High | Very low (illiquid) |
| Pricing | Transparent (market price) | Difficult to determine |
| Upfront fees | Standard brokerage commission | High (a substantial percentage of investment) |
| Redemption | Sell on exchange anytime | Limited or unavailable |
| Valuation | Market-based | Estimated; may not reflect true value |
| Market volatility | Yes | Less correlated, but illiquidity risk |
Exam Tip: Gotchas
- If a question describes a REIT with limited liquidity and high commissions, it is a non-traded REIT.
- Non-traded REITs are frequently tested. The three key risks: illiquid, high upfront fees, and distributions that may come from investor capital rather than real estate income.
What Should You Check on Exam Day?
- Every REIT, exchange-listed or non-traded, must distribute at least 90% of taxable income as dividends.
- REIT dividends are generally taxed as ordinary income, not at the lower qualified dividend rate, regardless of REIT type.
- Non-traded REITs are registered with the SEC but do not trade on an exchange; "registered" does not mean "listed."
- Non-traded REITs carry significantly higher risk than exchange-listed REITs: illiquid, high upfront fees, and distributions that may come from investor capital rather than real estate income.