Key regulatory requirements

Sources of income

What are the basic source-of-income requirements for a REIT?

An entity must satisfy two gross income tests annually to maintain its qualification for taxation as a REIT under the Internal Revenue Code:

  • at least 75 per cent of the entity’s gross income for each taxable year must be derived from investments relating to real property, including:
    • ‘rents from real property’ (a term of art under the Internal Revenue Code);
    • interest and gain from mortgages on real property or on interests in real property;
    • income and gain from foreclosure property;
    • gain from the sale or other disposition of real property (including specified ancillary personal property treated as real property under the Internal Revenue Code); or
    • dividends on and gain from the sale or disposition of shares in other REITs (but excluding in all cases any gains subject to the 100 per cent tax on prohibited transactions); and
  • at least 95 per cent of the entity’s gross income for each taxable year must consist of income that is:
    • qualifying income for purposes of the 75 per cent gross income test;
    • other types of interest and dividends;
    • gain from the sale or disposition of stock or securities; or
    • any combination of these.


The following items are excluded from both the numerator and the denominator in both gross income tests:

  • income from the sale of property held primarily for sale to customers in the ordinary course of business;
  • income and gain from specified ‘hedging transactions’ that are clearly and timely identified as such;
  • income from the repurchase or discharge of indebtedness; and
  • income or gain earned by TRSs.


In addition, specified foreign currency gains are excluded from gross income for purposes of one or both of the two gross income tests above.

Under the Internal Revenue Code, ‘rents from real property’ is a term of art with exacting standards. Non-qualifying rental income is limited to comprising less than 5 per cent of an entity’s gross income (this being the mathematical complement to the 95 per cent gross income test). For rental (and related service) gross income to qualify as ‘rents from real property’ the following rules apply.

The amount of rent received generally must not be based on the income or profits of any person, but it may be based on a fixed percentage or percentages of receipts or sales.

Rents, generally, do not qualify if, whether directly or after application of attribution rules, the REIT owns 10 per cent or more of the tenant by vote or value of stock or other equity (or 10 per cent or more of the interests in the tenant’s assets or net profits, if the tenant is not a corporation). Special rules apply to REITs invested in lodging facilities and healthcare facilities. In addition, there is a limited exception to the prohibition on earning ‘rents from real property’ from a 10 per cent-affiliated tenant, if the tenant is a TRS. If at least 90 per cent of the leased space of a property is leased to tenants other than TRSs and 10 per cent to affiliated tenants, and if the TRS’s rent to the REIT for space at that property is substantially comparable to the rents paid by non-affiliated tenants for comparable space at the property, then otherwise qualifying rents paid by the TRS to the REIT will not be disqualified under the rule prohibiting 10 per cent-affiliated tenants.

In order for rents to qualify, a REIT generally must not manage the property, or furnish or render services to the property’s tenants, except through an independent contractor from which it derives no income or through one of its TRSs. There is an exception to this rule, permitting a REIT to perform customary management and tenant services of the sort that a tax-exempt organisation could perform without being considered in receipt of ‘unrelated business taxable income’ as defined in the Internal Revenue Code. In addition, a de minimis amount of non-customary services provided to tenants will not disqualify income as ‘rents from real property’, if the value of the impermissible tenant services does not exceed 1 per cent of the gross income from the property.

If rent attributable to personal property leased in connection with a lease of real property is 15 per cent or less of the total rent received under the lease, then the rent attributable to personal property will qualify as ‘rents from real property.’ However, if this 15 per cent threshold is exceeded, then the rent attributable to personal property will not qualify. The portion of rental income treated as attributable to personal property is determined according to the ratio of the fair market value of the personal property to the total fair market value of the real and personal property that is rented.

Finally, ‘rents from real property’ includes both charges an entity receives for services customarily rendered in connection with the rental of comparable real property in the same geographic area, even if the charges are separately stated, as well as charges received for services provided by TRSs when the charges are not separately stated. Although the matter is not free from doubt, ‘rents from real property’ should also include charges received for services provided by TRSs when the charges are separately stated, even if the services are not geographically customary.

Thus, for a typical REIT, its tenant revenues from TRS-provided services, whether the charges are separately stated or not, and whether the services do or do not satisfy the geographically customary standard, should qualify as ‘rents from real property.’ See Decker, Kaplan and Ponda, ‘Non-Customary Services Furnished by Taxable REIT Subsidiaries’, 148 Tax Notes 413 (27 July 2015) for a comprehensive discussion of the evolution of the REIT rules, and how REITs today can provide most kinds of tenant services through a taxable REIT subsidiary.

Asset composition

What are the basic asset composition requirements for a REIT?

A REIT’s assets must be principally ‘real property’ (as defined in the Internal Revenue Code and the US Treasury Regulations thereunder) or related to real property leasing, with the possibility of investing in the portfolio securities of other issuers being very limited. More specifically, at the close of each calendar quarter of each taxable year, in order to qualify for taxation as a REIT for federal income tax purposes, the value of the entity’s total assets must meet the following requirements:

  1. at least 75 per cent must consist of ‘real estate assets’, defined as:
    • real property (including interests in real property and interests in mortgages on real property or on interests in real property);
    • ancillary personal property to the extent that rents attributable to such personal property are treated as rents from real property in accordance with the rules described above;
    • cash and cash items;
    • shares in other REITs;
    • debt instruments issued by ‘publicly offered REITs’ as defined in the Internal Revenue Code;
    • government securities; and
    • temporary investments of new capital.
  2. no more than 25 per cent may be represented by securities (other than those that count favourably toward the 75 per cent asset test);
  3. the value of any single non-REIT issuer’s security may not exceed 5 per cent of the value of the entity’s total assets;
  4. the entity may not own more than 10 per cent of the vote or value of any single non-REIT issuer’s outstanding securities unless it is a straight debt security or otherwise excepted;
  5. no more than 20 per cent of the value of the entity’s total assets  may be represented by stock or other securities in its TRSs; and
  6. no more than 25 per cent of the value of the entity’s total assets may be represented by ‘nonqualified publicly offered REIT debt instruments’, as defined in the Internal Revenue Code.


An entity’s stock and securities in a TRS are exempt from the 5 per cent and 10 per cent asset tests described in (3) and (4).

Significantly, there is no Internal Revenue Code requirement for a REIT’s investment real estate to be diversified, although portfolio diversification is sometimes a requirement, found in bilateral income tax treaties with the United States, for reducing the cross-border withholding upon a REIT dividend paid to a non-US investor resident in a treaty country. In practice, most all public REITs are well diversified, but some private REITs invest in single properties.

‘Real property’ for this purpose includes inherently permanent structures, structural components thereof, and certain intangible assets that are inseparable from, and derive their value from, such real property. ‘Real property’ may also include air rights, water rights, and natural products of the land, such as crops and timber prior to harvesting. For further discussion of the types of real property that may be owned by a REIT, see Ponda, ‘REIT Taxation Developments’, Boston Tax Forum (1 May 2017).


What are the basic distribution requirements for a REIT?

In order to qualify for taxation as a REIT under the Internal Revenue Code, an entity’s distribution must be sufficiently large and timely so as to contemporaneously (or nearly contemporaneously) distribute to shareholders all (or nearly all) of its taxable income and any accumulated earnings and profits inherited from regular (non-REIT) corporations.

In particular, a REIT is required to make annual distributions (other than capital gain dividends) to its shareholders in an amount at least equal to the excess of:

  • the sum of:
    • 90 per cent of its ‘real estate investment trust taxable income’;
    • 90 per cent of its net income after tax from property received in foreclosure; and
    • 100 per cent of any accumulated earnings and profits inherited from regular (non-REIT) corporations, over:
  • the amount by which its non-cash income (eg, imputed rental income or income from transactions inadvertently failing to qualify as like-kind exchanges) exceeds 5 per cent of its ‘real estate investment trust taxable income’.


For these purposes, a REIT’s ‘real estate investment trust taxable income’, as defined in the Internal Revenue Code, is computed without regard to the dividends paid deduction and the REIT’s net capital gain. Esoteric (and thus often overlooked) rules regarding net interest expense, net operating loss carryovers, passive activity loss and at-risk rules for certain REITs closely held by institutional investors, and similar loss limitation rules may lead to a REIT having a higher amount of ‘real estate investment trust taxable income’ (and thus a concomitant higher distribution requirement) than it may anticipate.

Distributions must be paid in the taxable year to which they relate, or in the following taxable year if declared before the entity timely files its federal income tax return for the earlier taxable year and if paid on or before the first regular distribution payment after that declaration. If a dividend is declared in October, November or December to shareholders of record during one of those months, and is paid during the following January, then for federal income tax purposes such dividend will be treated as having been both paid and received on 31 December of the prior taxable year to the extent of any undistributed earnings and profits.

A REIT may be able to rectify a failure to pay sufficient dividends for any year by paying ‘deficiency dividends’ to shareholders in a later year. These deficiency dividends may be included in the REIT’s deduction for dividends paid for the earlier year, but an interest charge would be imposed upon the REIT for the delay in distribution. While the payment of a deficiency dividend will apply to a prior year for purposes of the REIT distribution requirements and the REIT’s dividends paid deduction, it will be treated as an additional distribution to the shareholders receiving it in the year such dividend is paid.

For REITs that are not public (eg, a private REIT held by an investment fund or by institutional investors), the applicable distributions must also satisfy the ‘preferential dividend rule’. This means that for distributions to be deductible, an entity must meticulously observe its organisational documents with regard to the amount, timing, order, and formalities in declaring distributions upon its outstanding common and preferred shares, such that no distribution is too early, too late, too little, too much, or too informal.

Consequences of non-compliance

What happens if a REIT fails to meet the basic regulatory requirements? Is relief available if a company fails to meet any of these requirements?

If a REIT fails to meet the requirements to qualify for taxation as a REIT in any year, it will be subject to federal income taxation as if it were a corporation, meaning that federal income tax generally will be applied at both the corporate and shareholder levels. A REIT is generally disqualified from re-electing to be taxed as a REIT for the four taxable years following the taxable year in which it lost its status as a REIT.

There is generally no relief available for a REIT that deliberately fails one of the REIT requirements. However, in general, the REIT rules have an array of ‘intermediate sanctions’ such that inadvertent failures are ‘reprimanded’ with measured penalties and fines, rather than the draconian imposition of REIT disqualification. These ‘intermediate sanction’ penalties cover various failures of the REIT requirements, but generally only if the failures are due to reasonable cause and not willful neglect. See ‘Relief Provisions’, page 54, Ponda, ‘REIT Taxation and Data Centers: Basics, Developments, Structures & Predictions’ (14 May 2018).

Compliance best practices

What best practices should be considered to ensure compliance with the key regulatory requirements for REITs in your jurisdiction?

A public company’s REIT status typically represents 25 per cent to 35 per cent of its total enterprise value, and the same is presumably true for a private company’s REIT status. In other words, REIT status is often a ‘crown jewel’ for a company. Knowledge of REIT requirements thus becomes a shared responsibility across a number of segments within the company, including not just the tax and accounting functions (which manage the testing measures being used to verify compliance) but also legal, business operations, business development, financial planning and analysis, financial reporting, treasury, etc. All of these areas must be trained on the REIT requirements in their areas to maintain REIT compliance.

Moreover, a failure to operate within the REIT rules can represent a ‘deficiency’, a ‘significant deficiency’ or (worst case) a ‘material weakness’ under applicable US Securities and Exchange Commission (SEC) and accounting standards, which in turn invites enhanced scrutiny from financial auditors, investors and (possibly) government regulators, something which the company can only remedy with intense focus and potentially expensive remediation. Most companies, therefore, choose to build up their internal knowledge of REIT requirements and REIT compliance before making a REIT election, which usually requires one or more full-time employees committed to this task.

Public REITs – regulatory treatment

Are the requirements for a publicly traded REIT raising capital different from those imposed on private REITs or public non-REIT companies?

Yes. REITs raising funds in a public offering (or that have registered with the SEC) are subject to extensive SEC disclosure requirements and filings that do not apply to private REITs raising capital. The US Securities Act of 1933, as amended, requires a REIT that is raising equity or debt capital in the public markets to register the offering of the securities, generally by filing a registration statement with the SEC. In addition to describing the details of the particular securities offering, the registration statement must contain (either directly or indirectly by incorporating the REIT’s other SEC filings) detailed information on a wide range of topics regarding the REIT’s business, including its:

  • strategy;
  • executive compensation;
  • corporate governance practices and procedures;
  • risk factors;
  • legal proceedings;
  • directors and executive officers;
  • security ownership of key beneficial owners and management;
  • certain types of relationships and related transactions;
  • financial statements and analyses; and
  • auditor fees and services incurred by the REIT.


All of this information becomes fully public, and thus freely available and subject to review by the SEC, as well as investors, analysts and other stakeholders.

A REIT raising capital in a public offering registered with the SEC is generally required to file a registration statement on Form S–11, at least initially, which includes more disclosure related to the REIT’s business than a registration statement by a non-REIT company on Form S–1 (the form generally available to public companies that are not REITs). Among the additional requirements on a Form S–11 are:

  • Investment policies with respect to investments in real estate, mortgages, and other types of interests in real property, taking into account the REIT’s prior experiences. For example, a public REIT will want to disclose the types of real estate that it holds and/or seeks to acquire, such as office buildings, apartment buildings, shopping centres, industrial and commercial properties, special purpose buildings, undeveloped acreage, etc.
  • Material information with regard to all material real properties held or intended to be acquired by, or leased to, the REIT or its subsidiaries. For this purpose, ‘material’ refers to any property with a book value of 10 per cent or more of the total assets of the REIT or any property from which the gross revenues are 10 per cent or more of the aggregate gross revenues of the REIT.
  • Operating data on each such property, such as occupancy rate and principal provisions of the leases.
  • Arrangements with regard to the management of the property or properties involved.
  • A tax opinion on material issues (such as REIT status). Generally, either a REIT’s legal counsel or an independent public or certified accountant will provide a tax opinion supporting the tax matters and consequences to REIT shareholders described in the filing. A private letter ruling from the US Internal Revenue Service can also satisfy part or all of this tax opinion requirement.


While perhaps not strictly required to do so, a private REIT may also choose to disclose some or all of the above information, especially if it is competing against public REITs for access to capital.

Public REITs – ongoing requirements

What are the ongoing securities and disclosure requirements for publicly traded REITs?

Once a REIT is publicly traded in the United States, it becomes subject to extensive ongoing and periodic reporting requirements under the US Securities Exchange Act of 1934, as amended. These include annual and quarterly reports with financial statements, analyses and other detailed information, proxy statements for shareholder meetings with extensive requirements, and reporting requirements for a wide range of material developments and events. These filings require detailed disclosure on a wide range of items impacting the REIT’s business. Additionally, periodic filings also require certain material contracts and other company agreements to be publicly disclosed and filed. Further, directors, officers and 10 per cent shareholders of public companies must report substantially all of their trading activity in the REIT’s securities and are subject to restrictions on their trading activities. Shareholders owning more than 5 per cent of a public company are subject to certain reporting obligations and restrictions. For more information, see Berkenblit and Ben-Bassatt, Public Company Compliance Manual (2021).

Public REITs – listing rules

Do the stock exchanges in your jurisdiction have any special rules that do not apply to unlisted or private REITs?

While US stock exchanges do not have REIT-specific requirements, listing on a US stock exchange requires that a company meet certain initial and continuing listing criteria regarding share price, number of holders, and applicable financial thresholds, all of which vary by market. If a private or non-listed REIT decides to list its securities for trading on a national stock exchange, such as the New York Stock Exchange or the Nasdaq Stock Market, it becomes subject to additional rules of that exchange, which can be (and often are) above and beyond the SEC’s requirements. For example, stock exchange listing requirements generally require the board of directors to be comprised of a majority of independent directors. Further, the board of directors must have certain committees (typically an audit committee, a compensation committee and a nominating committee), each with mandatory responsibilities, as well as certain mandated policies and procedures, including a code of ethics for directors, officers and employees. New York Stock Exchange-listed companies must also maintain corporate governance guidelines covering additional duties, policies and responsibilities of the REIT. The stock exchanges also have additional shareholder approval rules regarding certain equity issuances and compensation plans that would not necessarily be required for non-listed or private REITs. Finally, the stock exchanges require prompt disclosure of material information, even if not necessarily mandated by SEC rules.