REIT Overview
Moving from Direct Participation Programs (DPPs) to REITs, you'll see a similar theme (tax-advantaged real estate investing) but with a very different structure. REITs make real estate accessible to everyday investors without requiring them to buy, manage, or finance properties directly.
What Is a REIT?
- A Real Estate Investment Trust (REIT) is a company that owns, operates, or finances income-producing real estate
- Structured as a trust or corporation (not a partnership like most DPPs)
- Created by Congress in 1960 to give individual investors access to large-scale, diversified real estate portfolios
The 90% Distribution Rule
The defining requirement for REITs:
- A REIT must distribute at least 90% of its taxable income to shareholders as dividends
- In exchange for meeting this requirement, the REIT avoids corporate-level taxation (no double taxation)
- If a REIT fails to meet the 90% threshold, it faces a 4% excise tax on the shortfall
- Distributions can be made in cash or stock (stock distributions must offer at least 20% cash)
REIT Dividends vs. Stock Dividends
This is a key distinction for the exam:
| Feature | REIT Dividends | Regular Stock Dividends |
|---|---|---|
| Tax rate | Ordinary income rates | Qualified dividend rates (lower) |
| Why | Pass-through of rental/interest income | Corporate earnings already taxed |
| Entity-level tax | None (if 90% distributed) | Yes (corporate tax paid first) |
- REIT dividends are taxed as ordinary income (not qualified dividends)
- Some portion of distributions may be classified as return of capital (tax-deferred, reduces cost basis)
Exam Tip: Gotchas
REIT dividends are taxed at ordinary income rates, NOT the lower qualified dividend rate. This is because REITs don't pay corporate tax; the trade-off for avoiding double taxation is that shareholders pay their full income tax rate on distributions.
Now let's look at the three types of REITs and what they invest in.