What it takes to start a REIT

Setting up a REIT means creating a legal structure that holds real estate and distributes income to investors. You need a real estate portfolio worth enough to justify the cost of formation, a business plan showing how the REIT will operate, and enough capital to cover legal fees, accounting, and initial property acquisition. Most REITs start with at least $5 million in assets, though this is not a legal requirement — it is a practical threshold because the costs of compliance and administration are substantial.

The process involves choosing a state to incorporate in, filing formation documents with that state, meeting specific tax requirements set by the IRS, and registering with the Securities and Exchange Commission (SEC) if you plan to raise money from public investors. If you are forming a private REIT that sells shares only to accredited investors or a small group, some of these steps differ. The timeline from initial planning to operational REIT typically runs six months to a year.

Key Takeaways

  • You must hold real estate that generates income, structure it as a corporation or trust, and distribute at least 90 percent of taxable income to shareholders annually to may have access to for REIT tax status.
  • The IRS requires at least 100 shareholders, with no more than 50 percent of shares held by five or fewer people, and at least 75 percent of assets must be real estate or real estate debt.
  • Public REITs must register with the SEC and file regular financial reports; private REITs have fewer reporting requirements but face restrictions on who can invest.
  • You will need a board of directors, a property management plan, and a tax advisor familiar with REIT rules, because violations can result in losing REIT status and owing back taxes.
  • Formation costs typically range from $50,000 to $150,000 depending on complexity, state of incorporation, and whether you pursue public or private status.

Choosing between public and private REIT structures

A public REIT sells shares to any investor through stock exchanges or directly to the public. It must register with the SEC, file quarterly and annual reports, and meet strict disclosure rules. Public REITs can raise large amounts of capital but face higher compliance costs and ongoing regulatory scrutiny. Most large, well-known REITs are public.

A private REIT sells shares only to accredited investors (generally those with $200,000 or more in annual income or $1 million in net worth) or to a limited number of investors you know. Private REITs have lower reporting requirements and can operate with fewer shareholders, but they cannot raise capital as easily and investors have less liquidity — meaning it is harder to sell shares quickly. Many smaller real estate groups use private REIT structures.

A third option is a non-traded REIT, which is registered with the SEC but does not trade on a public exchange. These sit between public and private in terms of regulation and capital-raising ability. They are less common for new formations because they still require SEC registration but offer fewer of the liquidity benefits of a public listing.

Meeting IRS requirements for REIT status

The IRS does not grant REIT status automatically. You must meet specific tests each year to keep it. First, your entity must be structured as a corporation, trust, or association taxed as a corporation. You cannot be a partnership or sole proprietorship.

Second, you must have at least 100 shareholders. For a private REIT, this can be met by a small group of investors; for a public REIT, this happens naturally. No more than 50 percent of your shares can be held by five or fewer people — this rule prevents a REIT from being too concentrated in one owner's hands.

Third, at least 75 percent of your total assets must be real estate, cash, or government securities. At least 75 percent of your gross income must come from rents, mortgage interest, or gains on real estate sales. At least 95 percent of your gross income must come from these real estate sources or from dividends and interest.

Fourth, you must distribute at least 90 percent of your taxable income to shareholders each year as dividends. This is the core trade-off: you avoid corporate-level taxation, but you must pass most earnings to investors rather than retaining them in the company.

Filing formation documents and registering with the state

Start by choosing a state to incorporate in. Most REITs incorporate in Delaware, Maryland, or the state where their main property is located, because these states have favorable corporate laws or lower fees. You will file articles of incorporation or a trust agreement with the state's Secretary of State office, naming your REIT, listing its purpose, and identifying the initial board of directors.

You will also need an Employer Identification Number (EIN) from the IRS, which you obtain by filing Form SS-4. This is free and takes minutes online or by phone. The EIN is used for all tax filings and banking.

Next, you must elect REIT status with the IRS by filing Form 1120-REIT (the REIT tax return) for your first tax year. You make this election on the return itself — there is no separate process. However, you should file this return on time and include all required schedules, because filing late or incompletely can result in losing REIT status.

If you are forming a public REIT, you will also file a registration statement with the SEC on Form S-1 or Form S-11 (the latter is specifically for real estate companies). This document describes your business, the properties you own, your management team, and the risks investors face. The SEC reviews this and may ask questions before approving it.

Setting up governance and management

Every REIT must have a board of directors that oversees the company and protects shareholder interests. For a small private REIT, the board might be three to five people; for a public REIT, it is typically seven to nine. Board members do not have to be shareholders, but they must be independent enough to make decisions in the REIT's interest rather than their own.

You will also need to decide whether to self-manage your properties or hire a property management company. Self-management means your REIT employees handle day-to-day operations like tenant relations, maintenance, and rent collection. Hiring an external manager means paying a fee (typically 4 to 8 percent of rental income) but outsourcing the operational burden. Many REITs use external managers, especially if they own properties in multiple states.

You must appoint officers — typically a chief executive officer, chief financial officer, and secretary — who handle day-to-day decisions and report to the board. These roles can be held by the same person in a small REIT or split among several people in a larger one.

Acquiring properties and funding the REIT

Before you can operate as a REIT, you need to own real estate. This can be office buildings, apartments, shopping centers, warehouses, or other income-producing properties. You acquire properties by purchasing them outright, using debt financing, or acquiring existing properties from other owners.

Funding comes from several sources: your own capital, loans from banks or other lenders, and investor capital. For a private REIT, you sell shares to accredited investors or a small group. For a public REIT, you sell shares through underwriters to the general public. You can also raise capital through a combination of debt and equity.

The properties you acquire must generate income — rent, mortgage interest, or gains on sale — to meet the IRS income tests. Properties held purely for appreciation without rental income do not count toward the 75 percent real estate asset test in the same way.

Ongoing compliance and tax reporting

Once your REIT is operating, you must file annual tax returns (Form 1120-REIT) and distribute at least 90 percent of taxable income to shareholders. You must track your income sources carefully to may support you meet the 75 percent real estate income test and the 95 percent total income test each year.

If you are a public REIT, you must file quarterly reports (Form 10-Q) and annual reports (Form 10-K) with the SEC, hold annual shareholder meetings, and maintain detailed records of all transactions. Private REITs have fewer reporting requirements but still must keep accurate books and provide financial statements to shareholders.

You must also monitor your shareholder composition. If five or fewer people ever own more than 50 percent of your shares, you lose REIT status. Similarly, if your real estate assets fall below 75 percent of total assets or your real estate income falls below 75 percent of gross income, you must take corrective action or risk losing status.

Losing REIT status is serious: the REIT is taxed as a regular corporation, you owe corporate-level tax on all income, and shareholders owe tax on distributions. This can result in owing years of back taxes plus penalties.

Working with advisors and managing costs

Forming and operating a REIT requires informed in real estate, tax law, securities law (if public), and accounting. You should hire a tax advisor who specializes in REITs to help you structure the entity, file your first return, and monitor compliance. You will also need a real estate attorney to draft formation documents, review property purchases, and handle lease agreements.

If you are forming a public REIT, you need securities counsel to draft the registration statement and may support compliance with SEC rules. You will also hire an underwriter to help sell shares to the public.

Formation costs vary widely. A straightforward private REIT with a small number of investors might cost $50,000 to $75,000 in legal and accounting fees. A public REIT can cost $150,000 to $300,000 or more because of SEC registration, underwriting, and ongoing compliance. These are one-time or early-stage costs; ongoing annual compliance typically runs $20,000 to $50,000 depending on size and complexity.

Frequently Asked Questions

Can I convert an existing real estate business into a REIT?

Yes. If you own real estate through a partnership, LLC, or corporation, you can restructure it as a REIT by creating a new entity, transferring the properties into it, and electing REIT status with the IRS. This process involves tax planning because the transfer itself may trigger capital gains tax. Work with a tax advisor to structure this efficiently.

What happens if I fail to distribute 90 percent of taxable income?

The REIT loses its tax-exempt status for that year and is taxed as a regular corporation on all income. You may also owe an excise tax on the undistributed income. Restoring REIT status in future years is possible if you correct the problem, but the damage for that year is done.

Do I need a certain number of properties to form a REIT?

No legal minimum exists, but most REITs own at least three to five properties to diversify risk and meet investor expectations. A REIT with only one property is legally valid but may struggle to raise capital because investors see it as too concentrated.

Can I be the only shareholder of a REIT?

No. The IRS requires at least 100 shareholders. If you are the sole owner, you cannot claim REIT status. You must have at least 100 separate investors, though they can own very small stakes.

How long does it take to become operational as a REIT?

Formation typically takes three to six months for a private REIT and six to twelve months for a public REIT, depending on SEC review time and the complexity of your properties. The timeline depends on how quickly you acquire properties, finalize your business plan, and complete legal and tax filings.