Real Estate Investment Trusts — REITs — are one of the most popular vehicles for dividend income investors. They offer exposure to real estate without the need to buy, manage, or finance property directly, and they are legally required to distribute the vast majority of their income as dividends. That combination of high yield, inflation linkage, and accessibility makes REITs a common holding in income-focused portfolios.
But REITs work differently from ordinary stocks. They use unique earnings metrics, are taxed differently, and come in very different varieties — from stable net lease landlords to highly leveraged mortgage funds. This guide explains everything a beginner needs to know before investing in them.
What is a REIT?
A Real Estate Investment Trust is a company that owns, operates, or finances income-producing real estate. To qualify as a REIT under US tax law, a company must:
- Invest at least 75% of its assets in real estate, cash, or US Treasuries
- Earn at least 75% of its gross income from real estate-related sources (rents, mortgage interest, property sales)
- Distribute at least 90% of its taxable income to shareholders as dividends each year
- Have at least 100 shareholders and be structured as a corporation
In exchange for meeting these requirements, REITs pay no corporate income tax on distributed income. The tax is passed through to shareholders, who pay tax on dividends at their individual rate. This pass-through structure is the core reason REITs pay higher dividends than most other companies — they cannot retain much of their income without losing their tax status.
According to the National Association of Real Estate Investment Trusts (Nareit), there are over 200 publicly traded REITs in the US with a combined market capitalisation of more than $1 trillion.
Types of REITs
Not all REITs are the same. The two main categories are equity REITs and mortgage REITs, with significant variation within each.
For most dividend investors, equity REITs — particularly net lease, industrial, and healthcare — offer a more predictable income profile than mortgage REITs. mREITs can offer very high yields but have historically cut dividends frequently during periods of interest rate volatility.
How to read REIT financials: FFO explained
The most important thing to understand about analysing REITs is that standard earnings per share (EPS) is not the right metric. REITs own depreciating assets on paper — buildings are amortised over many years for accounting purposes — even though real estate typically holds its value or appreciates over time.
This means GAAP net income understates REIT earnings by deducting large non-cash depreciation charges. The solution is Funds From Operations (FFO), which adds back depreciation (and amortisation) to net income:
FFO = Net income + Depreciation & Amortisation − Gains from property sales
FFO is the primary metric used to evaluate whether a REIT can afford its dividend. An FFO payout ratio below 80% (dividends ÷ FFO) is generally considered healthy for most equity REITs. Many high-quality REITs target an FFO payout ratio of 70–75% to leave room for growth and safety.
Some analysts use AFFO (Adjusted Funds From Operations), which further deducts maintenance capital expenditure — the money spent keeping existing properties in good condition. AFFO gives an even more conservative and precise picture of distributable cash flow.
REIT dividend yields
REITs typically yield more than broad stock market averages, precisely because of their 90% distribution requirement. Historically, equity REITs have yielded 3–6% on average, with individual sectors varying considerably. Healthcare and net lease REITs often yield 4–6%; residential REITs tend toward 2–4%; mortgage REITs can yield 8–14% but with significantly higher risk.
Use our Dividend Yield Calculator to calculate and compare yields across REIT holdings. Remember to use FFO-based yields when available — a traditional yield calculation divided by EPS can be misleading for REITs due to depreciation.
Tax treatment of REIT dividends
REIT dividends are typically taxed at ordinary income rates in the US — not at the lower qualified dividend rate that applies to most corporate dividends. This is an important distinction. For an investor in the 22% bracket, REIT dividends are taxed at 22% rather than the 15% rate that applies to qualified dividends from other stocks.
The Tax Cuts and Jobs Act of 2017 introduced a 20% deduction for pass-through income (Section 199A), which partially mitigates this — effectively reducing the maximum tax rate on REIT dividends by up to 20%. But even with this deduction, REIT dividends remain less tax-efficient than qualified stock dividends.
This is why REITs are often recommended inside tax-advantaged accounts — a Roth IRA, Traditional IRA, or ISA — where the dividend tax treatment is irrelevant and the high income compounds entirely without annual tax drag.
Risks of REIT investing
REITs carry several specific risks that investors should understand before buying. Interest rate sensitivity is the most significant: as interest rates rise, the cost of REIT debt increases (reducing profitability) and the relatively high yield of REITs becomes less attractive compared to bonds, causing prices to fall. REITs underperformed significantly during the 2022 rate hike cycle.
Occupancy and tenant risk: A REIT depends on its tenants paying rent. Retail REITs faced severe pressure during the 2020 pandemic as retail tenants stopped paying. Healthcare REITs had issues when senior housing operators faced financial difficulties. Understanding tenant quality is critical.
Leverage: REITs typically use debt to finance properties. Higher leverage amplifies both returns and risks. Check the debt-to-equity ratio and interest coverage ratio in REIT financials.
How to invest in REITs
The simplest way to add REITs to your portfolio is through a diversified REIT ETF, which provides exposure to dozens or hundreds of REITs in a single purchase. The Vanguard Real Estate ETF (VNQ) is the largest REIT ETF by assets and covers the broad US REIT market with a low 0.12% expense ratio. The iShares Global REIT ETF (REET) adds international real estate exposure.
Individual REIT selection requires understanding the specific property type, geographic market, tenant quality, and balance sheet of each company. For most beginners, starting with a REIT ETF and moving to individual REITs as knowledge develops is the sensible path.
Many REITs also qualify as monthly dividend payers — particularly net lease REITs like Realty Income — making them an attractive option for investors who want regular income aligned with monthly expenses.