What Is a REIT and Should You Own One?

Real estate has been a wealth-building vehicle for centuries. The problem is, most people don't have hundreds of thousands of dollars sitting around for a down payment — and even if they did, managing rental properties is a part-time job at minimum.

REITs were created specifically to solve that problem. They let you invest in real estate the same way you invest in a company: by buying shares.

Here's what you need to know.

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What Is a REIT?

A Real Estate Investment Trust (REIT) is a company that owns, operates, or finances income-producing real estate. Think office buildings, apartment complexes, shopping centers, hospitals, data centers, cell towers, warehouses — the whole spectrum of commercial and residential property.

Congress created the REIT structure in 1960, specifically to give everyday investors a way to access large-scale real estate investments that were previously only available to wealthy individuals and institutional investors.

To qualify as a REIT under U.S. law, a company must meet several requirements. The most important ones:

• At least 75% of total assets must be in real estate, cash, or U.S. Treasuries
• At least 75% of gross income must come from real estate sources (rents, mortgage interest, etc.)
• At least 90% of taxable income must be distributed to shareholders annually as dividends

That 90% distribution requirement is the defining feature of REITs and the main reason income investors love them. Because they're required to pay out the vast majority of their earnings, REITs tend to offer dividend yields significantly higher than the average stock.

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The Three Types of REITs

Equity REITs

These are the most common type, and when most people say "REIT," they mean equity REITs.

Equity REITs own and operate physical properties. They generate revenue primarily through rent collected from tenants. The REIT owns the buildings; tenants pay to occupy them; those rents (minus operating costs) flow to investors as dividends.

Equity REITs span a wide range of property sectors:

• Residential: Apartment complexes, single-family rentals, manufactured housing
• Retail: Shopping centers, malls, standalone stores
• Industrial: Warehouses, logistics centers, distribution hubs
• Office: Commercial office buildings
• Healthcare: Hospitals, senior living facilities, medical office buildings
• Data Centers: Server farms and technology infrastructure
• Cell Towers: Wireless communication infrastructure
• Self-Storage: Storage facility complexes
• Specialty: Prisons, casinos, timber, farmland

The diversity of property types means equity REITs have very different performance characteristics depending on which sector you're in. Industrial and data center REITs, for example, have performed very differently from retail mall REITs over the past decade.

Mortgage REITs (mREITs)

Mortgage REITs don't own physical properties. Instead, they invest in mortgages and mortgage-backed securities — essentially, they lend money to property owners and earn income from the interest.

Mortgage REITs often offer very high dividend yields because they use significant leverage (borrowed money) to amplify returns. That leverage is also what makes them considerably riskier than equity REITs. Their performance is heavily tied to interest rate spreads — the difference between what they earn on their mortgage assets and what they pay to borrow money.

When interest rates move unexpectedly, mortgage REITs can be hit hard. They're generally considered more complex and higher-risk than equity REITs.

Hybrid REITs

Hybrid REITs combine elements of both — they own properties and also invest in mortgages. They're less common and can be harder to analyze because you're essentially evaluating two different business models at once.

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Why Investors Buy REITs

Income. Because of the 90% distribution requirement, REITs typically yield more than the S&P 500 average. For income-focused investors — especially retirees — this can be attractive.

Real estate exposure without landlord headaches. You get the economic benefits of real estate ownership (rental income, property appreciation) without managing tenants, dealing with maintenance, or tying up your capital in a single property.

Diversification. Real estate has historically had a relatively low correlation to stocks and bonds over long periods, which means adding REITs to a portfolio can reduce overall volatility.

Liquidity. Unlike actual real estate, publicly traded REIT shares can be bought and sold on a stock exchange any time markets are open. If you need your money, you can sell.

Inflation hedge. Many types of real estate (particularly residential and industrial) can serve as an inflation hedge because rents tend to rise with inflation over time.

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The Risks You Need to Understand

Interest rate sensitivity. REITs are particularly sensitive to rising interest rates for two reasons: (1) higher rates increase their borrowing costs, squeezing margins; and (2) higher interest rates make bonds more competitive as income investments, which can reduce demand for REITs and push their prices down. During rate-hiking cycles, REITs often underperform.

Sector-specific risks. Different types of REITs face very different risks. Retail REITs have faced enormous pressure from e-commerce disrupting brick-and-mortar shopping. Office REITs faced structural challenges from the remote work shift. Healthcare REITs are affected by regulatory changes. You're not just buying "real estate" — you're buying a specific slice of it.

Leverage risk. REITs typically carry significant debt. During economic downturns, when vacancies rise and rents decline, debt can amplify losses.

Tax treatment. REIT dividends are generally taxed as ordinary income, not at the lower qualified dividend rate. This matters if you hold them in a taxable account. Holding REITs in a tax-advantaged account (IRA, 401(k)) can avoid this issue.

No retained earnings for growth. Because REITs must pay out 90% of taxable income, they have less retained capital to fund growth. They often issue new shares or take on debt to fund expansion — which can dilute existing shareholders or increase risk.

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REITs vs. Dividend Stocks: What's the Difference?

Both REITs and dividend-paying stocks can be income-generating holdings. But they're not the same thing.

Dividend stocks distribute a portion of earnings. The board sets the dividend; there's no legal requirement for how much or how often. A company can cut or suspend dividends as it sees fit. Dividends are often taxed at the preferential qualified dividend rate.

REITs are legally required to distribute at least 90% of taxable income — making them more income-predictable in some ways, but also more capital-constrained. REIT dividends are largely taxed as ordinary income.

Sector exposure: A dividend stock in a consumer staples company or utility gives you very different economic exposure than a REIT. They respond differently to economic cycles, interest rates, and inflation.

Neither is universally better. Many balanced income portfolios include both. The point is to know what you own and why.

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How to Access REITs in Your Portfolio

Individual publicly traded REITs: You can buy shares in any publicly traded REIT directly through your brokerage, the same way you buy stock. If you want targeted exposure to a specific sector (say, data centers or healthcare), this is how you get it.

REIT ETFs: For most investors, a REIT ETF is the more sensible approach. These funds hold diversified baskets of REITs, giving you broad real estate exposure without the need to evaluate individual companies. Popular options include broad-market REIT index funds from Vanguard, Fidelity, iShares, and Schwab, with varying expense ratios — look for low-cost index-based options.

Non-traded REITs: Some REITs are not traded on public exchanges. These are generally sold by brokers and tend to have higher fees, lower liquidity, and less transparency. They're more complex products and typically better suited for sophisticated investors.

Real estate mutual funds: Actively managed funds focused on real estate securities. These have higher expense ratios than index-based REIT ETFs and face the same performance challenges that active funds face in any sector.

For most investors, a broad REIT index ETF held in a tax-advantaged account is the cleanest way to add real estate exposure to a portfolio.

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Should You Own a REIT?

Here's a reasonable framework:

If you're building a long-term diversified portfolio and you have no direct real estate exposure, adding a REIT position (say, 5-15% of your equity allocation) can make sense for diversification and income.

If you're primarily focused on growth rather than income, REITs may not add much that a broad market index fund doesn't already include — many index funds already have REIT exposure baked in.

If you're sensitive to interest rate risk or your investment horizon is short, be cautious. REITs can have significant drawdowns during rising rate environments.

If you're a retiree or income-focused investor looking to supplement income, equity REITs (particularly diversified REIT ETFs) are worth serious consideration — especially inside a tax-advantaged account to manage the ordinary income tax issue.

What you're looking for in any REIT investment: transparent financials, manageable debt levels, quality underlying properties or portfolios, and a low-cost structure if you're using an ETF.

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The Bottom Line

REITs are a legitimate and often underused tool for building a diversified portfolio with real estate exposure and income. They're not magic — they have real risks and don't behave like bonds or growth stocks — but they offer something most investors can't easily replicate on their own: professionally managed, diversified real estate ownership at any investment size.

Understand what you're buying, put it in the right account for tax purposes, keep costs low, and don't overweight any single sector.

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