The term REIT (Real Estate Investment Trust) refers in a broad sense to a type of organization that owns or invests in real estate or financial instruments related to real estate. REITs come in several varieties, and the differences can cause some confusion. However, the basic structure and requirements are as follows:
A REIT is a pass-through company, which does not pay federal income tax at the corporate level as long as it meets the eligibility standards.
The more familiar genre of REIT invests in property. These real estate assets can be virtually any type, including multi-family housing, office buildings, industrial space, healthcare, retail, hospitality, self-storage, or another type of property. The income stream for equity REITs derives mainly from the rent paid by tenants in the owned properties.
The second type of REIT is called a mortgage REIT, which buys mortgages and other financial instruments that finance commercial property. This kind of REIT generates its income mainly through interest and fees.
Some REITs, referred to as hybrids, have both property and debt in their asset base.
As noted, the corporation or other trust structure does not need to pay federal income taxes if it is eligible as a REIT. However, the individual shareholders report the income they receive and pay taxes at the ordinary income rate. As a result, some taxpayers prefer to hold REIT investments in a retirement account to defer the taxes or exempt the income from tax liability. Always consult your tax and retirement advisor about your circumstances.
Typically, REITs are traded on a stock exchange as securities, like shares in any corporation. According to the Securities and Exchange Commission, there are over 200 publicly-traded REITs in the U.S. currently. Brokers privately trade others, and some are publicly registered with the SEC but not traded. There is no set lifetime for the trust in most cases. Investors who buy publicly traded shares in a REIT can usually buy as much or little as they like and dispose of the shares when they want or need to. However, if an investor buys a non-traded or private REIT, the investment should be considered illiquid. These shares may have a minimum holding period and be more challenging to find a buyer for.
There are some limited, special use REIT examples. One is called a "finite life" REIT. This entity is formed for a specific time, generally due to the type of asset it holds or intends to purchase. When the time for disposition is at hand, the proceeds are distributed to the shareholders rather than reinvested.