TL;DR: A REIT (Real Estate Investment Trust) is a company that owns income-producing real estate and lets you invest in it like a stock. By law, REITs must pay out at least 90% of their taxable income as dividends. That makes them popular with income investors. But high yields come with real risks, especially when interest rates move.
Table of Contents
- What is a REIT?
- How do REITs work?
- Types of REITs
- Why do REITs pay such high dividends?
- What are the risks of investing in REITs?
- How to invest in REITs
- The pleb’s takeaway
What is a REIT?
Owning rental property sounds great in theory — until you’re dealing with a broken furnace at midnight or trying to scrape together a 20% down payment on a $400,000 building.
A REIT, or Real Estate Investment Trust, solves that problem. It’s a company that owns and typically operates income-producing real estate: apartment complexes, shopping centers, office buildings, data centers, or warehouses. You buy shares in the REIT, and in return you get a cut of the income that real estate generates.
Congress created REITs in 1960 specifically to give regular investors access to large-scale real estate investments, the same way mutual funds give people access to large stock portfolios. The structure worked: today, REITs collectively own more than $4 trillion in assets (as of 2024) and are traded on every major U.S. stock exchange.
How do REITs work?
A REIT raises money from investors, uses that money to buy real estate (or real-estate-related assets), and collects income, mostly in the form of rent. That income gets passed along to shareholders as dividends.
To qualify as a REIT under IRS rules, a company must meet several requirements:
- Invest at least 75% of its total assets in real estate, cash, or U.S. Treasuries
- Earn at least 75% of its gross income from real-estate-related sources (rents, mortgage interest, property sales)
- Pay at least 90% of its taxable income to shareholders as dividends each year
- Have at least 100 shareholders and be structured as a corporation
That 90% dividend rule is the big one. It’s why REITs often show up on lists of high-yield investments. The tradeoff is that they can’t retain much earnings to reinvest in growth, so they frequently raise capital by issuing new shares or taking on debt.
Types of REITs
Not all REITs are the same. The three main categories work very differently.
Equity REITs
The most common type. Equity REITs own and operate physical properties: apartment buildings, retail malls, hospitals, cell towers, you name it. Their income comes primarily from rent. When you think of a REIT, this is usually what people mean.
Examples: Prologis (industrial warehouses), AvalonBay (apartments), Realty Income (retail properties with long-term tenant leases).
Mortgage REITs (mREITs)
Instead of owning buildings, mortgage REITs lend money to real estate owners or buy mortgage-backed securities. Their income comes from the interest on those loans.
mREITs tend to pay higher dividends than equity REITs, but they’re also more sensitive to interest rate changes and carry more credit risk. They behave less like real estate companies and more like leveraged bond funds.
Hybrid REITs
A mix of both: they own some properties and hold some mortgage assets. Less common than the other two.
For most beginning investors, equity REITs are the starting point. They’re easier to understand, more diversified, and their income is tied to the real economy of rent-paying tenants.
Why do REITs pay such high dividends?
The 90% payout rule is the core reason. Because REITs are required by law to distribute nearly all their taxable income, they can’t hoard cash the way most corporations do. That money goes straight to shareholders.
But there’s a nuance worth understanding: REIT dividends are usually taxed as ordinary income, not at the lower qualified dividend rate. That means if you’re in a high tax bracket, REITs are often better held inside a tax-advantaged account (IRA or 401(k)) than in a regular brokerage account.
The dividend yield on many REITs runs anywhere from 3% to 7%, and sometimes higher for mortgage REITs. That looks attractive, but yield alone doesn’t tell you much. A high yield can signal a healthy payout or a falling stock price. Check the context before chasing the number.
What are the risks of investing in REITs?
REITs aren’t a free lunch. Here are the main risks to understand before investing.
Interest rate sensitivity
This is the biggest one. When interest rates rise, REIT prices tend to fall for two reasons. First, higher rates increase borrowing costs for REITs, which cuts into profits. Second, when safe assets like Treasury bonds offer attractive yields, income-seeking investors move money out of REITs and into bonds, pushing REIT prices down.
You saw this play out clearly in 2022–2023: as the Fed aggressively raised interest rates, the REIT sector got hit hard even though the underlying properties were still generating rent.
Sector concentration
REITs specialize. A retail REIT lives or dies with the health of brick-and-mortar retail. An office REIT is tied to demand for office space (which took a beating post-pandemic). A hotel REIT rises and falls with travel.
When you buy a single REIT, you’re making a bet on that sector. REIT ETFs and index funds spread that risk across sectors.
Leverage
REITs use a lot of debt. That amplifies returns in good times and amplifies losses when things go wrong. In a rising-rate environment, heavily indebted REITs face both higher refinancing costs and pressure on valuations. Watch the debt-to-equity ratio when evaluating individual REITs.
Dividend cuts
The 90% payout requirement doesn’t mean the dividend is guaranteed. If a REIT’s income drops (because tenants stop paying rent, a sector turns, or the economy slows), the dividend can be cut. This is the “yield trap” risk: a high yield isn’t always a reward — sometimes it’s a warning sign.
How to invest in REITs
There are three main ways:
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Individual REITs. Buy shares of a specific REIT through your brokerage, the same way you’d buy any stock. Good if you have a view on a specific sector (e.g., industrial real estate or healthcare). Requires research into the company’s financials and debt levels. You’ll want to look at metrics like funds from operations (FFO), the REIT equivalent of earnings per share, rather than standard EPS, since depreciation distorts net income for property-owning companies.
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REIT ETFs. Exchange-traded funds that hold a basket of REITs. Instant diversification across sectors and individual companies. Examples include the Vanguard Real Estate ETF (VNQ) and the Schwab U.S. REIT ETF (SCHH). Lower research burden, lower concentration risk.
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REIT mutual funds or index funds. Similar to ETFs but structured differently. Some actively managed, some passive. Often available inside 401(k) plans where REITs aren’t offered as direct options.
For most beginners, a REIT ETF inside a tax-advantaged account is the cleanest starting point. It gives you real estate exposure without the complexity of picking individual companies or sectors.
The pleb’s takeaway
A REIT is one of the simplest ways to add real estate to your portfolio without buying a single brick. You get a diversified slice of income-producing properties, a steady dividend stream, and the liquidity to sell whenever you want — none of which comes with an actual rental property.
The tradeoffs are real: REITs are sensitive to interest rates, they’re sector-concentrated, and their dividends are taxed as ordinary income. None of these are dealbreakers. They’re just things to understand before you buy.
If you’re building an income-focused portfolio, REITs deserve a spot in the conversation. If you’re purely growth-focused, they’re still worth knowing — because at some point, you’ll see a ticker with a 6% yield and wonder what’s going on. Now you know.
This content is for educational purposes only and does not constitute financial advice. investingforplebs.com is not a registered investment advisor. Please consult a qualified financial professional before making investment decisions.
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