TL;DR: A corporation that holds real estate, pays out at least 90% of its taxable income, and in return pays no corporate tax on what it distributes.

Real estate funds love REITs — not only the listed kind, but private REITs set up inside a fund to hold properties. A REIT is a corporation, so it works like a blocker: foreign investors get dividends instead of ECI, and tax-exempts get dividends instead of UBTI. But unlike a normal blocker, a REIT deducts the dividends it pays, so there's roughly one layer of tax, not two.

To qualify it has to pass ongoing tests: at least 75% of income from real estate sources (and 95% from those plus other passive income), at least 75% of assets in real estate, cash and government securities, distribute 90% of taxable income, have 100+ shareholders, and not be closely held (five or fewer individuals can't own over 50%). Funds often meet the 100-shareholder rule with ~125 small preferred shareholders.

The REIT testsA building surrounded by four requirements: 75% real estate income, 75% real estate assets, 90% distribution, and 100+ shareholders.No corporate tax on what it pays out75% income testreal estate income75% asset testreal estate assetsDistribute 90%of taxable income100+ shareholdersnot closely held
Pass every test, every year — and the entity-level tax mostly disappears.

Worked example

A real estate fund puts its apartment portfolio into a private REIT. The REIT earns $20m of taxable income and distributes all of it, so it pays no corporate tax. A foreign LP receives REIT dividends (generally FDAP, with treaty relief possible) rather than filing US returns for every property — and if the REIT is domestically controlled, the fund can later sell REIT shares free of FIRPTA.

Where you'll see it: REIT qualification testing each quarter, 125-shareholder “accommodation” preferred stock, and Form 1120-REIT.

Code: IRC §§ 856–860 · Related: Domestically controlled REIT, FIRPTA, UBTI

See all 53 terms in the glossary

This glossary is general information, simplified for learning. It is not tax, legal or investment advice, and real structures turn on facts and documents not shown here.