Real estate investment trusts, or REITs, deliver attractive dividend yields that can supplement retirement income, but retirees need to understand the tradeoffs before buying.
REITs trade like stocks and let you own pieces of commercial properties, apartments, warehouses, or data centers without buying real estate directly. Many REITs distribute 90 percent of taxable income to shareholders as dividends, which explains their appeal. A REIT yielding 4 to 6 percent offers more income than Treasury bonds or dividend stocks, which typically yield 2 to 3 percent.
The catch: REITs fluctuate with stock markets. When interest rates rise, REIT prices fall because investors can get better returns elsewhere. During the 2022 rate-hiking cycle, many REITs dropped 30 to 50 percent. A retiree who needed income badly during that downturn would have faced losses or selling at the worst time.
REITs also carry specific risks. Economic slowdowns hurt property values and rental income. A recession could crush hospitality or office REITs. Sector matters enormously. Industrial REITs backed by e-commerce warehouses performed well recently, while traditional office REITs struggled as companies embraced remote work.
Dividend taxation stings too. REIT dividends count as ordinary income, taxed at rates up to 37 percent federally, not the lower capital gains rates that apply to many stock dividends. A retiree in the 24 percent bracket pays significantly more on REIT income than on qualified dividends.
For retirement portfolios, use REITs carefully. They work best as a small allocation, perhaps 5 to 15 percent of equities, to diversify beyond stocks and bonds. Hold them in tax-deferred accounts like IRAs or 401(k)