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Real Estate Investment Trust (REIT): How They Work and How to Invest – Investopedia

James Chen, CMT is an expert trader, investment adviser, and global market strategist. He has authored books on technical analysis and foreign exchange trading published by John Wiley and Sons and served as a guest expert on CNBC, BloombergTV, Forbes, and Reuters among other financial media.
Investopedia / Eliana Rodgers
A real estate investment trust (REIT) is a company that owns, operates, or finances income-generating real estate.
Modeled after mutual funds, REITs pool the capital of numerous investors. This makes it possible for individual investors to earn dividends from real estate investments—without having to buy, manage, or finance any properties themselves.
Congress established REITs in 1960 as an amendment to the Cigar Excise Tax Extension. The provision allows investors to buy shares in commercial real estate portfolios—something that was previously available only to wealthy individuals and through large financial intermediaries.
Properties in a REIT portfolio may include apartment complexes, data centers, healthcare facilities, hotels, infrastructure—in the form of fiber cables, cell towers, and energy pipelines—office buildings, retail centers, self-storage, timberland, and warehouses.
In general, REITs specialize in a specific real estate sector. However, diversified and specialty REITs may hold different types of properties in their portfolios, such as a REIT that consists of both office and retail properties. 
Many REITs are publicly traded on major securities exchanges, and investors can buy and sell them like stocks throughout the trading session. These REITs typically trade under substantial volume and are considered very liquid instruments. 
Most REITs have a straightforward business model: The REIT leases space and collects rents on the properties, then distributes that income as dividends to shareholders. Mortgage REITs don't own real estate, but finance real estate, instead. These REITs earn income from the interest on their investments.
To qualify as a REIT, a company must comply with certain provisions in the Internal Revenue Code (IRC). These requirements include to primarily own income-generating real estate for the long term and distribute income to shareholders. Specifically, a company must meet the following requirements to qualify as a REIT:
Today, it's estimated that REITs collectively hold about $3.5 trillion in gross assets; publicly traded equity REITs account for $2.5 trillion.
There are three types of REITs:
Type of REIT
Holdings
Equity
Owns and operates income-producing real estate
Mortgage
Holds mortgages on real property
Hybrid
Owns properties and holds mortgages
REITs can be further classified based on how their shares are bought and held:
You can invest in publicly traded REITs—as well as REIT mutual funds and REIT exchange-traded funds (ETFs)—by purchasing shares through a broker. You can buy shares of a non-traded REIT through a broker or financial advisor who participates in the non-traded REIT’s offering.
REITs are also included in a growing number of defined-benefit and defined-contribution investment plans. An estimated 145 million U.S. investors own REITs either directly or through their retirement savings and other investment funds, according to Nareit, a Washington, D.C.-based REIT research firm.
As of 2022, REITs collectively hold more than half-a-million individual properties.
REITs can play an important part in an investment portfolio because they can offer a strong, stable annual dividend and the potential for long-term capital appreciation. REIT total return performance for the last 20 years has outperformed the S&P 500 Index, other indices, and the rate of inflation. As with all investments, REITs have their advantages and disadvantages.
On the plus side, REITs are easy to buy and sell, as most trade on public exchanges—a feature that mitigates some of the traditional drawbacks of real estate. Performance-wise, REITs offer attractive risk-adjusted returns and stable cash flow. Also, a real estate presence can be good for a portfolio because it provides diversification and dividend-based income—and the dividends are often higher than you can achieve with other investments.
On the downside, REITs don't offer much in terms of capital appreciation. As part of their structure, they must pay 90% of income back to investors. So, only 10% of taxable income can be reinvested back into the REIT to buy new holdings. Other negatives are that REIT dividends are taxed as regular income, and some REITs have high management and transaction fees.
Liquidity
Diversification
Transparency
Stable cash flow through dividends
Attractive risk-adjusted returns
Low growth
Dividends are taxed as regular income
Subject to market risk
Potential for high management and transaction fees
The Securities and Exchange Commission (SEC) recommends that investors should be wary of anyone who tries to sell REITs that aren't registered with the SEC. It advises that "You can verify the registration of both publicly traded and non-traded REITs through the SEC's EDGAR system. You can also use EDGAR to review a REIT's annual and quarterly reports as well as any offering prospectus."
It's also a good idea to check out the broker or investment advisor who recommends the REIT. The SEC has a free search tool that allows you to look up if an investment professional is licensed and registered.
Another consideration when choosing REITs is to look at the sectors of the real estate market that are hot. Which booming sectors of the economy, in general, can be tapped into via real estate? As an example, healthcare is one of the fastest-growing industries in the U.S.—especially in the growth of medical buildings, outpatient care centers, eldercare facilities, and retirement communities.
Several REITs focus on this sector. Healthpeak Properties (PEAK)—formerly HCP— is one example. As of April 2022, it had a market cap of nearly US $18.9 billion, with some 4 million shares traded daily. Its portfolio focuses on three core asset classes: life sciences facilities, medical offices, and senior housing, owning interests in more than 615 properties.
REIT stands for "Real Estate Investment Trust". A REIT is organized as a partnership, corporation, trust, or association that invests directly in real estate through the purchase of properties or by buying up mortgages. REITs issue shares that trade stock exchange and are bought and sold like ordinary stocks. In order to be considered a REIT, the company must invest at least 75% of its assets in real estate and derive at least 75% of its revenues from real estate-related activities.
By law and IRS regulation, REITs must pay out 90% or more of their taxable profits (to shareholders in the form of dividends. As a result, REIT companies are often exempt from most corporate income tax. Shareholders of REITs who receive dividends are taxed as if they are ordinary dividends.
A "paper clip REIT" increases the tax advantages afforded to a REIT while also allowing it to operate properties that such trusts normally cannot run. It is so-named because it involves two different entities that are "clipped" together via an agreement where one entity owns the properties and the other manages them. The paper clip REIT entails stricter regulatory oversight since there can be conflicts of interest and, as a result, this form of REIT is uncommon. It is similar but more flexible in structure to a "stapled REIT".
U.S. Securities and Exchange Commission. "Investor Bulletin: Real Estate Investment Trusts (REITs)," Page 1.
U.S. Securities and Exchange Commission. "Real Estate Investment Trusts (REITs)."
Internal Revenue Service. "Instructions for Form 1120-REIT (2021)."
Nareit. "REITs by the Numbers."
U.S. Securities and Exchange Commission. "Investor Bulletin: Publicly Traded REITs."
Nareit. "What's a REIT (Real Estate Investment Trust)?"
U.S. Securities and Exchange Commission. "Check Your Investment Professional."
U.S. Bureau of Labor Statistics. "5 Out of 20 Fastest Growing Industries From 2019 to 2029 Are In Healthcare and Social Assistance."
Nasdaq. "Healthpeak Properties, Inc. Common Stock."
Healthpeak Properties. "Our Diversified Private-pay Healthcare Portfolio."
Healthpeak Properties. "Our Strategy."
U.S. Securities and Exchange Commission. "Investor Bulletin: Real Estate Investment Trusts (REITs)," Page 1-2.
U.S. Securities and Exchange Commission. "Investor Bulletin: Real Estate Investment Trusts (REITs)," Page 1-4.
New York Times. "MARKET PLACE; Stapled REIT? Paper-Clipped?"
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