A Real Estate Investment Trust or REIT (rhymes with treat) is a tax designation for a corporation investing in real estate that reduces or eliminates corporate income taxes. The REIT structure was designed to provide a similar structure for investment in real estate as mutual funds provide for investment in stocks.

Like other corporations, REITs can be publicly or privately held. Public REITs may be listed on public stock exchanges like shares of common stock in other firms.

History

The United States Congress created REITs in 1960 to give anyone and everyone the ability to invest in large-scale commercial properties. Subsequently, REITs were introduced in the Netherlands and Australia as a means to invest in a portfolio of residential and commercial property.

United States REITs

In the U.S., REITs generally pay little or no federal income tax, but are subject to a number of special requirements set forth in the Internal Revenue Code, one of which is the requirement to annually distribute at least 90% of its taxable income in the form of dividends to its shareholders.

In recent practice, many REITs distribute all of or even more than their current earnings, often resulting in dividend yields comparable to bond yields. If an investment company such as a REIT distributes more than its taxable income, the excess distribution is considered "return of capital" for tax purposes (taxed as a capital transaction, rather than regular income). The distribution requirement may hamper a REIT's ability to retain earnings and generate growth from internal resources. This and other restrictions imposed by the Internal Revenue Code generally limit a REIT's suitability for growth-oriented investors. However, other considerations may result in potential for stock price appreciation, such as improvements in the REITs underlying leasing markets, changes in interest rates or increasing demand for REIT stocks.

Qualification

In order to qualify for the advantages of being a pass-through entity for corporation tax, a REIT must comply with the following Internal Revenue Code provisions:

Structured as corporation, business trust, or similar association

Managed by a board of directors or trustees

Shares need to be fully transferable

Minimum of 100 shareholders

Pays dividends of at least 90% of REIT's taxable income

No more than 50% of the shares can be held by five or fewer individuals during the last half of each taxable year

At least 75% of total investment assets must be in real estate

Derive at least 75% of gross income from rents or mortgage interest

Have no more than 20% of its assets consist of stocks in taxable REIT subsidiaries. www.reitnet.com