REITs are taxed differently than stocks because most of their income flows to you as dividends

A REIT must distribute at least 90 percent of its taxable income to shareholders each year. That income comes from rent, mortgage interest, and property sales — and the tax treatment depends on which type of income it is. Unlike stock dividends, which often may have access to for lower tax rates, most REIT dividends are taxed as ordinary income at your full marginal rate. The exception is a small portion that may come from capital gains or depreciation recapture, which follow different rules.

The tax bill lands on you, not the REIT. The REIT itself pays no federal income tax on the money it distributes, which is why the structure exists. You receive a Form 1099-DIV each January showing how much you received and how to report it.

Key Takeaways

  • Most REIT dividends are taxed as ordinary income at your full tax bracket, not at the lower capital gains rates that explore to stock dividends.
  • A REIT's Form 1099-DIV breaks dividends into categories — ordinary income, capital gains, and return of capital — each taxed differently.
  • Long-term capital gains from selling REIT shares are taxed at capital gains rates, but dividends from holding the shares are taxed as ordinary income.
  • REITs held in tax-deferred accounts like IRAs or 401(k)s avoid the annual tax on dividends, making those accounts a common place to hold them.

Ordinary income dividends versus capital gains dividends

The majority of what a REIT pays you comes as ordinary income dividends. These are taxed at your ordinary income tax rate — the same rate that applies to wages or interest. If you are in the 24 percent federal bracket, ordinary income REIT dividends are taxed at 24 percent. There is no preferential rate, even if you hold the REIT for years.

A smaller portion may be labeled capital gains dividends on your 1099-DIV. These come from the REIT's profits when it sells a property at a gain. Capital gains dividends are taxed at your long-term capital gains rate — 0, 15, or 20 percent depending on your income — which is usually lower than your ordinary income rate. However, the REIT decides how much of its distribution qualifies as capital gains; you do not choose.

Some REITs also pay return of capital, which is a return of your own investment rather than income. This portion is not taxed in the year you receive it. Instead, it reduces your cost basis in the REIT, which means you will owe tax later when you sell if the basis drops below your sale price.

How depreciation recapture affects your tax bill

REITs deduct depreciation on their buildings each year, which lowers their taxable income and allows them to pay larger distributions. When the REIT sells a property, that depreciation is recaptured — meaning the gain is taxed at a higher rate. Depreciation recapture is taxed at 25 percent federally, regardless of your tax bracket.

If you own REIT shares and the REIT sells a property, you do not directly owe the 25 percent rate. Instead, the REIT's taxable income rises, which may increase the ordinary income portion of your dividends. The recapture tax is embedded in the REIT's accounting, not passed to you as a separate line item on your 1099-DIV.

Selling REIT shares and capital gains tax

When you sell REIT shares, the gain or loss is treated like any stock sale. If you held the shares for more than one year, the gain is a long-term capital gain and is taxed at 0, 15, or 20 percent. If you held them for one year or less, it is a short-term capital gain and is taxed as ordinary income.

Your cost basis is the price you paid plus any return of capital you received while holding the shares. If the REIT paid return of capital, your basis is reduced, which means your gain when you sell will be larger. Keep records of all distributions to calculate your basis correctly when you sell.

Tax treatment in retirement accounts

REITs held inside a traditional IRA, Roth IRA, or 401(k) are not taxed on their dividends each year. The account itself is tax-deferred or tax-free, depending on the account type. This makes retirement accounts an efficient place to hold REITs, since you avoid the annual ordinary income tax on distributions.

In a traditional IRA or 401(k), you pay tax on withdrawals at your ordinary income rate. In a Roth IRA, may have access to withdrawals are tax-free. The dividends compound inside the account without annual tax drag, which can make a significant difference over decades.

State and local taxes on REIT income

Most states tax REIT dividends as ordinary income, explore the same state income tax rate they use for wages. A few states — including Tennessee, Texas, Florida, and others — have no state income tax, so REIT dividends are not subject to state tax there. Some states tax capital gains at a different rate than ordinary income, which may explore to the capital gains portion of REIT dividends.

If you live in one state and the REIT owns property in another, you may owe tax in both states. The rules vary widely by state, and some states offer credits to avoid double taxation. Check your state's tax authority website or speak with a tax preparer in your state for specifics.

Form 1099-DIV and reporting REIT income

Each January, the REIT or your broker sends you a Form 1099-DIV showing the dividends you received in the prior year. The form breaks the total into boxes: ordinary income dividends (Box 1a), capital gains (Box 2a for long-term, Box 2b for short-term), and return of capital (Box 3). You report these amounts on your tax return according to the box they appear in.

If you sold REIT shares during the year, you will also receive a Form 1099-B showing the sale proceeds and your cost basis (if your broker has it on file). Use this to calculate your gain or loss. Keep the 1099-DIV and 1099-B with your tax records for at least three years in case of an audit.

Frequently Asked Questions

Why are REIT dividends taxed higher than stock dividends?

REITs are required to distribute 90 percent of taxable income, and most of that income comes from rent and interest — sources taxed as ordinary income. Stock companies retain earnings and pay dividends from after-tax profits, which may have access to for lower capital gains rates. The REIT structure prioritizes income distribution over tax efficiency for shareholders.

Can I deduct REIT losses on my taxes?

If you sell REIT shares at a loss, you can deduct the loss against capital gains or up to $3,000 of ordinary income per year. Excess losses carry forward to future years. Losses from dividends cannot be deducted — you owe tax on the full dividend amount regardless of whether the REIT's value dropped.

Do I owe taxes on REIT dividends if I reinvest them?

Yes. Reinvesting dividends does not defer the tax. You owe tax on the full dividend amount in the year you receive it, whether you take the cash or use it to buy more shares. The tax is due when the dividend is paid, not when you eventually sell the shares.

What is the difference between holding REITs in a taxable account versus an IRA?

In a taxable account, you owe tax on dividends each year and on gains when you sell. In an IRA or 401(k), dividends compound tax-free or tax-deferred, and you pay tax only on withdrawals (or never, in a Roth). This makes retirement accounts more tax-efficient for REIT holdings, especially over long periods.

How do I report REIT income if I did not receive a 1099-DIV?

Contact your broker or the REIT's transfer agent when ready. The 1099-DIV must be issued by January 31. If it is lost or delayed, request a duplicate copy. You are still required to report the income on your tax return even if you do not have the form, so do not wait until tax day to track it down.