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

REITs pass gains through to shareholders but do not pass through losses. Federal law treats a REIT as a corporation that gets a deduction for the dividends it pays, so nearly all of its income lands on your tax return each year, while operating losses stay locked inside the entity and never reach your personal return. The flow is one-directional by design, and it shapes every decision about how to hold and report a REIT investment.

Why Gains Flow Out

A REIT must distribute at least 90% of its taxable income to shareholders each year, calculated without regard to the dividends-paid deduction and excluding net capital gains.¹ In exchange, it deducts those dividends from its own taxable income, which wipes out most or all of its corporate-level tax. The income is taxed once, at the shareholder level, rather than twice as it would be with an ordinary corporation.

That’s the bargain: rents, mortgage interest, and property-sale profits come out to investors as distributions instead of being reinvested inside the company. If a REIT falls short of the 90% threshold, it owes corporate tax on the undistributed portion. Persistent failure can strip the entity of REIT status altogether and subject all future income to double taxation.²

Why Losses Don’t Flow Out

Despite distributing income like a partnership, a REIT is taxed as a corporation under the Internal Revenue Code. That classification is what blocks losses from reaching shareholders. If a REIT posts a net operating loss from depreciation, property write-downs, or money-losing asset sales, you cannot use any of it to offset wages, portfolio income, or other gains on your return. A partnership or S-corporation would push those losses through to each investor. The REIT’s corporate wrapper does not.

Instead, the REIT carries losses forward against its own future taxable income. Net operating losses arising after 2017 carry forward indefinitely but can only offset up to 80% of the REIT’s taxable income in any given year.³

Retained losses do produce one indirect benefit for shareholders. Accumulated losses reduce the REIT’s earnings and profits, which can cause future distributions to be classified as return of capital rather than taxable dividends. That defers some tax until you sell your shares, but it is not the same as deducting a loss directly.

How the Distributions You Receive Are Taxed

Each year, your REIT holdings generate a Form 1099-DIV that splits distributions into categories, and each category carries a different rate.⁴ REIT dividends generally do not qualify for the preferential rate that most stock dividends enjoy, so the breakdown matters.

Ordinary Income Dividends

The largest piece of most REIT payouts comes from net rental income and short-term capital gains. This appears in Box 1a and is taxed at your regular income tax rate, the same rate you pay on wages.⁵ For high earners that can reach 37% at the federal level.

Capital Gain Dividends

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

Watch Box 2b. When the underlying gain comes from selling depreciated real estate, part of it is classified as unrecaptured Section 1250 gain and taxed at a maximum 25% rate rather than the usual long-term rate.⁵ For REITs that turn properties over frequently this can be a real slice of your tax bill.

Return of Capital

When a distribution exceeds the REIT’s current and accumulated earnings and profits, the excess is reported in Box 3 as return of capital. You owe no tax on it in the year you receive it.⁵

The catch is basis. Return of capital reduces your cost basis in the shares. Buy at $50, receive $5 in return of capital over time, and your adjusted basis drops to $45. You pay capital gains tax on a larger gain when you sell. If cumulative return of capital ever exceeds your original basis, further amounts are taxed as capital gains immediately. Tracking basis through the holding period is on you, and brokerage records do not always get this right.

The 20% Section 199A Deduction

Ordinary REIT dividends are taxed at regular income rates, but Section 199A lets you deduct 20% of qualified REIT dividends from taxable income.⁶ Receive $10,000 in qualified REIT dividends and you can deduct $2,000, paying tax on only $8,000. In the 24% bracket that saves $480.

The REIT dividend piece of the 199A deduction is not limited by W-2 wages or business property. Those limitations apply to the qualified business income component. REIT dividends get the full 20% regardless.⁶ The only ceiling is that the total 199A deduction cannot exceed 20% of your taxable income minus net capital gains. The One Big Beautiful Bill Act, signed July 4, 2025, made the deduction permanent for tax years beginning after December 31, 2025.

Undistributed Capital Gains

Occasionally a REIT keeps some of its long-term capital gains rather than paying them out. When that happens the REIT pays corporate tax on the retained gain, but shareholders still owe tax on their share. You receive a credit for what the REIT already paid on your behalf.¹

The REIT reports this on Form 2439, showing your share of the gain and the tax it paid. You include the full gain on your return as a long-term capital gain and claim the REIT’s tax payment as a credit. Your cost basis in the shares increases by the difference between the gain and the credit, as if you received and reinvested the after-tax amount.⁷ It is uncommon in practice, but it reinforces the design: even gains the REIT keeps are ultimately taxed to shareholders.

When You Sell Your Shares

Selling REIT shares follows standard capital gains rules. Hold more than a year and you pay long-term rates of 0%, 15%, or 20%. For 2026, the 15% rate applies above $49,450 of taxable income for single filers ($98,900 for joint filers), and the 20% rate above $545,500 for single filers ($613,700 for joint filers). Hold a year or less and you pay ordinary income rates.

Cost basis is where most sale-time mistakes happen. Every return of capital distribution you received reduced your basis, and those reductions accumulate over years of ownership. An investor who bought at $40 and received $12 in cumulative return of capital has an adjusted basis of $28. Selling at $42 produces a taxable gain of $14, not $2.

The sale is also the one place a REIT investment can produce a loss that reaches your personal return. If you sell at a loss, that capital loss offsets other capital gains, and up to $3,000 per year offsets ordinary income, with any excess carrying forward. Losses generated by the REIT’s operations never get to you; a loss on your shares does.

The 3.8% Net Investment Income Tax

High-income investors pay an additional 3.8% surtax on net investment income, which includes REIT distributions and gains from selling REIT shares. It applies when modified adjusted gross income exceeds $200,000 for single filers or $250,000 for married couples filing jointly.⁸ Those thresholds have not been adjusted for inflation since 2013, so more taxpayers cross them each year. The surtax stacks on top of whatever rate already applies to the underlying income.

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