What Are REITs? A Beginner's Guide to Real Estate Investment Trusts

Alright, let’s get into the actual meat of things. What even is a REIT?

In Real Estate Investment Trust Investing by Mike Hartley, the first chapter lays out the foundation for everything that follows. And it starts with a simple idea: you should be able to invest in real estate the same way you invest in any other business. By buying shares.

REITs, Explained Simply

A REIT (Real Estate Investment Trust) is a company that owns, operates, or finances income-producing real estate. We’re talking about things like apartment buildings, office towers, shopping centers, hospitals, data centers, and warehouses.

Here’s what makes them special. Instead of you personally buying a building and dealing with all the headaches that come with it, you buy shares in a company that already owns a bunch of buildings. That company collects rent from tenants, and then passes most of that income along to you as dividends.

You can buy and sell REIT shares on the stock market, just like you would with any other stock. So you get exposure to real estate without needing a massive down payment, a mortgage, or a toolbox.

How It All Started

REITs aren’t some new trend. They’ve been around since 1960, when President Eisenhower signed the Real Estate Investment Trust Act into law. The whole point was to give everyday investors access to large-scale, income-producing real estate. Before that, only wealthy individuals and big institutions could invest in major properties.

The law created a structure where companies could pool investor money to buy and manage real estate, and in exchange for certain tax benefits, they had to distribute most of their income back to shareholders.

It was a pretty big deal. Suddenly, you didn’t need to be rich to invest in commercial real estate.

Two Main Types

Hartley breaks REITs into two main categories right from the start:

Equity REITs own and manage actual properties. They make money from collecting rent. When you invest in an equity REIT, you’re basically a part-owner of real buildings. The value of your investment goes up when property values rise and when rental income increases.

Mortgage REITs (also called mREITs) don’t own buildings. Instead, they invest in mortgages and mortgage-backed securities. They make money from the interest on those loans. Think of them as the lending side of real estate rather than the owning side.

Both types pay dividends, but they work differently and have different risk profiles. I’ll get deeper into the differences in the next post.

A Bumpy History (That Ended Well)

One thing I appreciate about Hartley’s book is that he doesn’t pretend REITs have always been smooth sailing. He walks through the history honestly.

In the 1970s and 1980s, REITs went through some rough patches. High interest rates and economic downturns hit the real estate market hard, and plenty of REITs struggled. Some failed entirely.

But then came the 1990s. The industry restructured, regulations improved, and institutional investors started taking REITs seriously. The sector grew significantly, and returns improved.

Then 2008 happened. The financial crisis crushed real estate values across the board, and REITs took a major hit along with everything else. But here’s the thing. They recovered. And over the long term, REITs as an asset class have delivered competitive returns compared to the broader stock market.

Hartley’s point isn’t that REITs are risk-free. They’re not. His point is that over decades, they’ve proven to be a solid way to build wealth through real estate exposure.

How REITs Actually Make You Money

There are basically three ways REITs generate returns for investors:

Dividend income. This is the big one. By law, REITs must distribute at least 90% of their taxable income to shareholders as dividends. That’s not a suggestion. It’s a legal requirement. This is why REIT dividend yields tend to be higher than what you’d get from typical stocks.

Property appreciation. As the real estate a REIT owns goes up in value, the value of your shares can increase too. So you can benefit from capital gains when you eventually sell.

Rental revenue growth. As rents go up over time (they generally do, especially in growing markets), the income flowing to shareholders can increase as well.

So you’re getting paid while you hold, and the underlying value can grow over time. That’s the core appeal.

Diversification Without the Hassle

Another big point Hartley makes is about portfolio diversification. If your investments are all in stocks and bonds, adding REITs gives you exposure to a completely different asset class.

Real estate doesn’t always move in lockstep with the stock market. Sometimes stocks are down but real estate is holding steady, or the other way around. Having REITs in your portfolio can smooth out some of that volatility.

And you’re not just diversified across asset classes. Within REITs, you can spread your money across different property types. Residential, commercial, healthcare, industrial, retail. Each sector responds differently to economic conditions, so mixing them up adds another layer of protection.

Liquidity: A Real Advantage

Here’s something that often gets overlooked. If you own a rental property and you need cash, selling that property could take months. You have to list it, find a buyer, negotiate, go through closing. It’s a whole process.

With publicly-traded REITs? You sell your shares and the money is in your account in days. That liquidity is a huge advantage over traditional real estate investing.

Now, it’s worth noting that not all REITs are publicly traded. Some are private or non-traded, which means they don’t have that same liquidity. Hartley covers this distinction later in the book, and I’ll get to it in a future post.

The Bottom Line From Chapter 1

The first chapter of Hartley’s book does exactly what it needs to do. It explains what REITs are, why they exist, and why they’re worth your attention. The key takeaways:

• REITs let you invest in real estate without owning property
• They’ve been around since 1960 and have a long track record
• They must pay out 90% of taxable income as dividends
• They offer diversification, liquidity, and income
• They’re not risk-free, but they’ve weathered multiple economic downturns

If the idea of getting regular dividend payments from real estate sounds appealing, and you don’t want the burden of being a landlord, REITs are worth understanding. And that’s exactly what we’ll keep doing in this series.

Next up, I’ll break down the three main types of REITs in more detail, so you can start figuring out which ones might fit your investing goals.

This is Part 2 of a blog series covering “Real Estate Investment Trust Investing: The Secret to Passive Income from REITs” by Mike Hartley (2023).

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