How REITs Work
Congress created the REIT structure in 1960 to allow ordinary investors to participate in large-scale real estate investing — the same way they could participate in stocks through a mutual fund. To qualify as a REIT, a company must meet IRS requirements: invest at least 75% of total assets in real estate, derive at least 75% of gross income from real estate, and distribute at least 90% of taxable income to shareholders annually as dividends.
In exchange for meeting these requirements, REITs pay no corporate income tax on distributed earnings — the tax passes through to individual investors. This is why REIT dividend yields are typically much higher than ordinary stock dividends (3–8% vs 1–2% for the S&P 500 average).
Types of REITs
Equity REITs (most common) own and operate income-producing properties — apartments, office buildings, retail malls, warehouses, data centres, cell towers, hospitals, and hotels. Revenue comes from rent. Examples: Prologis (warehouses), Realty Income (retail), AvalonBay (apartments), American Tower (cell towers).
Mortgage REITs (mREITs) don't own properties — they lend money to real estate owners or invest in mortgage-backed securities. Revenue comes from interest income. They're more sensitive to interest rate changes and tend to be more volatile than equity REITs.
Hybrid REITs combine both — owning properties and holding mortgages. Less common.
| REIT Sector | What It Owns | Key Driver |
|---|---|---|
| Residential | Apartments, single-family rentals | Rental demand, population growth |
| Industrial | Warehouses, distribution centres | E-commerce growth |
| Healthcare | Hospitals, senior housing, medical offices | Ageing population |
| Data Centres | Server farms for cloud computing | Digital infrastructure growth |
| Retail | Strip malls, shopping centres | Consumer spending, e-commerce competition |
| Office | Office buildings | Return-to-office rates, remote work trends |
REIT vs Buying Rental Property
REITs win on: Liquidity (sell shares in seconds vs months to sell a house), diversification (one REIT share = exposure to hundreds of properties), no management burden, accessible with any amount, and professional management. Rental property wins on: Leverage (you can borrow to amplify returns), direct control, potential for above-market returns in specific local markets, depreciation tax benefits, and 1031 exchanges to defer capital gains.
For most investors without real estate expertise and significant capital, REITs provide better risk-adjusted real estate exposure. Active landlords with local market knowledge and management willingness can outperform REITs — but most don't.
REIT Tax Treatment
Most REIT dividends are classified as ordinary income (not qualified dividends) — taxed at your regular income tax rate, not the lower 0%/15%/20% long-term capital gains rate. For investors in the 22% or higher brackets, this makes REITs significantly more tax-efficient when held in a Roth IRA or Traditional IRA (where dividends grow tax-deferred or tax-free). Holding REITs in a taxable brokerage account when in a high tax bracket meaningfully reduces after-tax returns.
A portion of REIT dividends may be classified as "return of capital" (not taxable when received, but reduces your cost basis) or qualified dividends — your 1099-DIV form breaks these down each year.
How to Invest in REITs
REIT ETFs are the easiest entry point — instant diversification across the REIT sector for a low expense ratio. Popular options: Vanguard Real Estate ETF (VNQ, 0.12% expense ratio), Schwab US REIT ETF (SCHH, 0.07%), and iShares US Real Estate ETF (IYR). These hold dozens to hundreds of individual REITs.
Individual REITs allow targeting specific sectors or companies. Research the specific property type, geographic concentration, debt levels, dividend history, and AFFO (Adjusted Funds From Operations — the standard REIT profitability metric, equivalent to earnings for regular companies).
REITs Globally
UK — REITs (Real Estate Investment Trusts): The UK introduced a REIT regime in 2007. UK REITs must distribute 90% of property rental profits, are exempt from corporation tax on qualifying profits, and are listed on the London Stock Exchange. Examples: Land Securities, British Land, SEGRO (logistics). UK REIT dividends from property income are paid as PIDs (Property Income Distributions) and are taxable as property income (not dividend income). HMRC at gov.uk.
India — REITs and InvITs: India's REIT market is relatively new (first REIT listed 2019) but growing rapidly. SEBI regulates REITs at sebi.gov.in. Major Indian REITs: Embassy Office Parks REIT, Mindspace Business Parks REIT, Brookfield India REIT. Indian REITs must distribute 90% of net distributable cash flows. InvITs (Infrastructure Investment Trusts) are similar structures for infrastructure assets. Indian REIT yields have averaged 6–8% — attractive relative to fixed deposits.
Canada — REITs: Canadian REITs (Income Trusts) are structured differently from US REITs but follow similar principles — distributing most income to unitholders. Major Canadian REITs: RioCan (retail), Canadian Apartment Properties (residential), Choice Properties (grocery-anchored retail). Canadian REIT distributions have favourable tax treatment in non-registered accounts. TFSA-held REIT distributions are completely tax-free. CRA at canada.ca.