REIT Tax Strategy for Minimizing Your Tax Bill
I am always learning in investing. Recently I've been reading into different cases of optimizing assets by keeping them in the right account. Placing different assets in the proper type of account can have a huge impact on your net worth down the road by reducing your tax bill. Certain assets are best suited for a 401(k), some for a tax advantaged Roth IRA and the rest into a taxable brokerage account.
Six months ago, I decided I wanted to invest in a REIT (Real Estate Investment Trust) to diversify my portfolio into real estate. By owning a REIT, you collect the income from a portfolio of rental properties.
I chose to invest in Realty Income (O). It yields a monthly dividend, which I've reinvested back into my position. So far, it's been a steady place to keep a 1.4% position size in this turbulent year. As of today, I'm slightly in the green in profits. In their Q1 earnings report on May 5th, Realty Income mentioned it is the 7th largest REIT globally. They also pointed out that they have 98.5% portfolio occupancy, so nearly 99% of their properties are being actively rented.
"We owned or held interests in 15,627 properties, which were leased to 1,598 clients doing business in 91 industries." - Q1 2025 Realty Income Earnings Call
Reading online, I found that REITs are required to pass through 90% of their taxable income to shareholders. This gives them a different tax classification. The dividends REITs yield are "non-qualified dividends" which are part of your taxable income. This means that REITs are best suited for a tax advantaged account like a Roth IRA to keep more of your dividends.
Before I discovered this REIT tax nuance, I bought Realty Income in my taxable brokerage account. Now, I'm contemplating how I will shift my REIT holding into my Roth IRA. From what I've researched online, I would need to sell the position and re-buy in my Roth IRA. It is ok to keep a REIT in your taxable brokerage if you want to yield money you can use immediately. However, the tax hit on your dividends will be substantial in a taxable brokerage account. You'll also pay a higher tax on the dividends if you earn more from your salary or business, depending which tax bracket you fall into.
For new investors, the key concept here is that certain assets are better suited for your tax advantaged accounts. Another example of this that I realized recently is that holding bonds in a Roth IRA negates the tax advantage of the Roth. Bonds are best suited for a 401(k).
In the case of REITs, they are subject to higher tax rates versus typical dividend stocks. Therefore, if you want to invest in a REIT, you can keep more of your gains over the long run and maximize compounding by putting your REIT in a tax advantaged Roth IRA.