Do REITs Pass Through Gains and Losses? Dividends, Deductions, and NIIT

REITs pass gains through to shareholders but do not pass through losses. Federal tax law requires a REIT to distribute at least 90% of its taxable income each year, and the REIT deducts those dividends from its own taxable income, so rental profits and property-sale gains end up taxed on your return rather than the company’s.¹ Losses are different. Because a REIT is taxed as a corporation rather than a true pass-through entity like a partnership or S-corporation, a net operating loss stays inside the REIT and cannot offset your wages, interest, or other investment income.

Why Income and Gains Flow Through

The 90% distribution rule is what makes a REIT function like a pass-through for income. Taxable income is calculated without regard to the dividends-paid deduction and excluding net capital gains, and the REIT then deducts what it distributes.¹ The result is single-layer taxation: rent, mortgage interest, and property-sale profits are taxed once, at the shareholder level, rather than twice as they would be inside an ordinary corporation.

Anything the REIT retains above the 90% floor is taxed at regular corporate rates. Persistent failure to meet the distribution test can cost the entity its REIT status altogether, which would put all of its future income back under double taxation.²

Why Losses Stay Inside the REIT

A REIT is classified as a corporation under the Internal Revenue Code, and that classification blocks losses from reaching you. If the REIT posts a net operating loss from depreciation, property write-downs, or money-losing asset sales, you cannot deduct any part of it on your personal return. Partnership and S-corporation investors get that flow-through; REIT investors do not.

The REIT carries its losses forward instead. Net operating losses arising after 2017 carry forward indefinitely but can only offset up to 80% of the REIT’s taxable income in any single year.³

There is one indirect benefit. Accumulated losses reduce the REIT’s earnings and profits, which can push future distributions into the “return of capital” category rather than taxable dividend income. That defers some of your tax bill until you sell, but it is a much weaker benefit than deducting a loss directly.

How the Gains You Receive Are Taxed

Each January, your REIT holdings produce a Form 1099-DIV that splits the year’s distributions into categories, each with its own rate.⁴ REIT distributions generally do not qualify for the preferential “qualified dividend” rate that most corporate dividends receive, so the breakdown matters.

Ordinary Dividends

Net rental income and short-term capital gains distributed to you appear in Box 1a and are taxed at your regular income tax rate, the same rate you pay on wages.⁵ For high earners this can reach 37% at the federal level. The Section 199A deduction, described below, cushions this.

Capital Gain Dividends

When the REIT sells a property it held for more than a year and distributes the profit, that piece is a capital gain dividend, reported in Box 2a. You pay the long-term capital gains rate on it: 0%, 15%, or 20% depending on your total taxable income.¹

Watch Box 2b. When the underlying property had been depreciated, part of the gain is unrecaptured Section 1250 gain, taxed at a maximum rate of 25% rather than the usual long-term rate.⁵ For REITs that actively rotate properties, this can be a meaningful slice of your tax bill.

Return of Capital

Distributions that exceed the REIT’s current and accumulated earnings and profits show up in Box 3 as return of capital. You owe no tax on this portion in the year you receive it.⁵ Instead, it reduces your cost basis in the shares. Buy at $50, receive $5 of return of capital over time, and your adjusted basis becomes $45; when you sell, you owe capital gains tax on a larger gain. Once cumulative return of capital exceeds your original basis, any further amounts are taxed as capital gains right away. Your brokerage may not track this cleanly, so keep your own records.

The 20% Section 199A Deduction on Ordinary REIT Dividends

Ordinary REIT dividends are taxed at regular income rates, but Section 199A lets you deduct 20% of qualified REIT dividends from your taxable income.⁶ On $10,000 of qualified REIT dividends, you deduct $2,000 and pay tax on $8,000. In the 24% bracket, that is $480 saved.

A detail that gets missed: the REIT dividend piece of Section 199A is not limited by W-2 wages or the value of business property. Those limitations apply to the qualified business income component, not to REIT dividends.⁶ The only overall cap is that your total 199A deduction cannot exceed 20% of taxable income minus net capital gains.

Section 199A had been scheduled to expire after 2025. The One Big Beautiful Bill Act, signed on July 4, 2025, made the deduction permanent, effective for tax years beginning after December 31, 2025.

Undistributed Capital Gains

Occasionally a REIT keeps some of its long-term capital gains instead of paying them out. The REIT pays corporate tax on that retained amount, but you still owe tax on your share, with a credit for what the REIT already paid.¹

You get Form 2439, which reports your share of the retained gain and the tax the REIT paid on your behalf. You include the full gain on your return as a long-term capital gain and claim the REIT’s tax as a credit or refund.⁷ Your basis in the shares goes up by the difference between the gain and the credit, as if you had received and reinvested the after-tax amount. The mechanism is uncommon, but it confirms the pattern: even gains the REIT keeps are ultimately taxed to shareholders.

Selling Your REIT Shares

Selling shares triggers standard capital gains treatment. Held more than a year, the gain is long-term and taxed at 0%, 15%, or 20%. For 2026, the 15% rate begins above $49,450 of taxable income for single filers ($98,900 for married filing jointly), and the 20% rate applies above $545,500 for single filers ($613,700 for joint filers). Held a year or less, the gain is short-term and taxed at your ordinary rate.

Cost basis is where investors slip. Every return of capital distribution you received during your holding period reduced your basis, and those reductions add up over years. Bought at $40, received $12 of cumulative return of capital, adjusted basis is $28. Sell at $42 and your taxable gain is $14, not $2. Memory won’t save you here; records will.

A sale at a loss does something the REIT’s own losses cannot: it reaches your personal return. You can use a capital loss on REIT shares to offset other capital gains, deduct up to $3,000 per year against ordinary income, and carry any excess forward. This is the practical route through which a losing REIT investment produces a personal tax benefit.

The 3.8% Net Investment Income Tax

REIT distributions and gains from selling REIT shares count as net investment income, so a 3.8% surtax applies on top of your other rates once your modified adjusted gross income crosses $200,000 for single filers or $250,000 for married couples filing jointly.⁸ Those thresholds have not been indexed for inflation since the tax began in 2013, so the surtax reaches more taxpayers each year.

1
Office of the Law Revision Counsel. 26 U.S. Code 857 – Taxation of Real Estate Investment Trusts and Their Beneficiaries
2
U.S. Securities and Exchange Commission. Investor Bulletin: Real Estate Investment Trusts
3
Office of the Law Revision Counsel. 26 USC 172 – Net Operating Loss Deduction
4
Internal Revenue Service. Instructions for Form 1099-DIV
5
Internal Revenue Service. Form 1099-DIV – Dividends and Distributions
6
Internal Revenue Service. Qualified Business Income Deduction
7
Internal Revenue Service. Form 2439 – Notice to Shareholder of Undistributed Long-Term Capital Gains
8
Internal Revenue Service. Questions and Answers on the Net Investment Income Tax