What are REITs?

If you’re looking for a way to start investing in real estate, you could do worse than real estate investment trusts (REITs).

What are REITs, you ask? With their lower barrier to entry, REITs are a way for just about anyone to invest in real estate. They offer the potential to earn income without the headache of researching, scouting, and managing the property yourself.

How Do REITs Work?

If you’ve ever wondered, “What are REITs?” the answer is simpler than you might think.

Real estate investment trusts, or REITs, are companies that own and operate or finance income-generating real estate. You can buy shares of REITs, giving you ownership in a large property investment you might not have been able to afford otherwise.

A REIT’s assets might include office buildings, shopping malls, data centers, apartment complexes, hotels, self-storage facilities, mortgages and loans.

REITs get income from collecting rent from their tenants or interest on mortgages. They then distribute the profits to shareholders as dividends. By IRS rules, REITs must pay out 90% of their taxable income to shareholders.

To qualify as a REIT, a real estate company must:

• Hold 75% of its assets in real estate
• Earn 75% of its income from rents or interest or real estate sales
• Be taxable as a corporation
• Have a board of directors or trustees
• Have a minimum of 100 shareholders
• Have more than five individuals holding 50% of its shares

REITs also must hold no more than 25% of their assets in non-qualifying securities or stock in taxable REIT subsidiaries (TRS). A TRS helps a REIT compete with other real estate companies by providing such services as landscaping and cleaning.

Historical Returns of REITs

You might not have considered which REIT companies to invest in before. It might surprise you to learn that REITs have existed for more than 50 years and play a significant role in the U.S. economy.

REITs hold over $4 trillion in gross assets, with publicly traded trusts owning $2.5 trillion. All listed U.S. REITs have a market capitalization — the total value of a company’s shares — of $1.9 trillion, and REITs paid out $109.9 billion in dividends in 2022.

While the share price of REITs can fluctuate (though with less volatility than stocks), some REITs held for 10 years or more have outperformed or performed close to the stock market.

Historical returns for the FTSE Nareit All Equity REITs Index compare favorably to the S&P 500 and Russell 2000.

Consider the period ending March 28, 2024. The 10-year average annual return for the FTSE Nareit All Equity REITs Index was 6.93% as of March 2024, while the S&P 500 returned 12.96% for a 10-year average, and the Russell 2000 returned 7.58%. At 15 years, the returns were 13.63%, 15.63% and 12.89%, respectively.

However, jumping to a 25-year average, the FTSE Nareit All Equity REITs Index outperformed the asset classes in the S&P 500 and the Russell 2000. The FTSE Nareit’s 25-year average annual return was 9.63% in March 2024, compared to the S&P 500 at 7.78% and the Russell 2000 at 8.37%.

The comparable showing continues through years 30, 35, 40 and 45, with the FTSE Nareit slightly trailing the S&P 500 but besting the Russell 2000.

Different Types of REITs

REITs come in two flavors: equity and mortgage, plus a hybrid. They can also be categorized by how they’re registered (or not) and how you can access them. Here’s a brief explanation of each.

Equity REITs

This category comprises the largest number of REITs. They’re mostly publicly traded trusts that own and operate real estate that generates rental income.

Mortgage REITs

Also known as mREITs, these REITs are focused on residential and commercial real estate financing, buying or originating mortgages or mortgage-backed securities. An mREIT gets its income from interest.

Hybrid REITs

Hybrid REITs are like a soft-serve swirl of equity and mortgage REITs, investing in properties and mortgages and giving investors a taste of both.

Publicly Traded REITs

These REITs are registered with the U.S. Securities and Exchange Commission (SEC) and are available on a stock exchange.

Public Non-Traded REITs

These REITs may be registered with the SEC but aren’t traded on a public exchange. Public non-traded REITs are also known as non-exchange traded REITs.

Private REITs

Private REITs aren’t registered with the SEC and don’t trade on a national stock exchange.

Understanding whether a particular REIT is registered and knowing where it’s available is key to investing in REITs.

Pros and Cons of Investing in REITs

One of the biggest benefits of REITs is that they make real estate investing available to a broad swath of society. In addition to historically competitive returns, a REIT investment also comes with many other advantages.

Like any investment, however, REITs also have certain drawbacks and risks. Consider these pros and cons:

In short, REITs can help you diversify your investment portfolio, but the taxes on income-producing assets from REITs could cost you more than other investments. 

While the accessibility of REITs makes them attractive, it will be important to research your options and consider their past performance, dividend yields and real estate holdings. 

How to Invest in REITs

As an investor, you have many ways to invest in a REIT. Publicly traded REITs are available on major exchanges through your broker. You can also check to see if your broker offers non-traded REITs.

Shares of REITs are available through managed mutual funds, index funds and exchange-traded funds. You must open a brokerage account to buy shares through these funds.

Additionally, you can buy shares of REITs through a tax-advantaged retirement account, such as a 401(k) or traditional investment retirement account (IRA), if you have one.

Where to Invest in REITS

REITs provide access to real estate investments you might not have considered previously. As a bonus, you can purchase shares online from the comfort of your favorite chair or wherever you happen to do your investing.

Find the Right REIT for You

If you started by asking, “What are REITs?” you might now wonder how fast you can begin investing in them.

Adding a REIT to your investment portfolio can give you access to potentially profitable real estate and reduce your overall risk while providing you income through dividends. Do your due diligence to find the REIT that best fits your financial goals.

Frequently Asked Questions