About REITs

What is a REIT?

Simply stated, a REIT is a company dedicated to owning real estate, or interests in or loans secured by real estate such as apartments, homes, shopping centers, offices, warehouses, etc. Mortgage REITs, such as Chimera, are engaged in financing real estate through investment in mortgage loans and mortgage-backed securities. A REIT serves much like a mutual fund for real estate in that retail investors obtain the benefit of a diversified real estate portfolio under professional management. Its shares are publicly traded, often on a major stock exchange.

A REIT may deduct the dividends paid to the shareholders from its corporate tax bill in determining its taxable income. The REIT's gross income, however, must be derived mainly from real estate, and the REIT must pay out at least 90 percent of its taxable income to shareholders. The main benefit of being a REIT is the elimination of corporate-level taxation on amounts distributed as dividends to shareholders while the main limitation is the restriction on the company to retain earnings because of the 90% distribution requirement. For a REIT to grow, capital must come from money raised in the investment marketplace. Dividends paid by a REIT to a non-corporate stockholder do not, however, qualify for taxation at the lower capital gain tax rates generally applicable to dividends paid by ordinary domestic corporations.

What Qualifies a REIT?

In order for a corporation or trust to qualify as a REIT, it must comply with certain provisions of the Internal Revenue Code. As required by the Code, a REIT must:

• Be a corporation, business trust or similar association;
• Be managed by a board of directors or trustees;
• Have shares that are fully transferable;
• Have a minimum of 100 shareholders;
• Have no more than 50 percent of the shares held by five or fewer individuals during the last half of each taxable year;
• Invest at least 75 percent of the total assets in real estate assets, which may be mortgage loans or mortgage-backed securities;
• Derive at least 75 percent of gross income from rents from real property, or interest on mortgages on real property;
• have no more than 5% of its assets consist of the securities of any one issuer (other than securities of certain subsidiary corporations);
• not own securities of any one issuer (other than certain subsidiaries) representing more than 10% of the vote or value of any one issuer;

Why were REITs Created?

In 1960 Congress enacted the real estate investment trust tax provisions. Drawing in part from the example of mutual funds, REITs were created to provide investors with the opportunity to participate in both the benefits of ownership of larger-scale commercial real estate and mortgage lending, while receiving an enhanced return because the income is not taxed at the REIT entity level. This means that a diverse range of investors can realize investment opportunities otherwise available only to those with larger resources.

The basic provisions of this law remains unchanged, although there have been a number of improvements to the law over the past 45 years. For example, the REIT industry has benefited from tax reform initiatives enacted in the 1980s and 1990s. A tax change in 1986 allowed REITs to manage their properties directly, a 1993 change removed a significant barrier to pension plan investment in REITs, a dozen provisions enacted in 1997 simplified a REIT's operations, and, more recently in 2004, Congress enacted provisions enabling a company to continue to qualify as a REIT even though it may have inadvertently failed one or more of the REIT qualification tests.

Who Invests in REITs?

Thousands of investors, both U.S. and non-U.S., own shares of REITs. Pension funds, endowment funds, insurance companies, bank trust departments and mutual funds are just a few examples of the REIT investor community. REIT shares typically may be purchased on the open market, with no minimum purchase required. Like all companies whose stocks are publicly traded, REIT share prices are quoted on at least a daily basis.

What Types of REITs are there?

The REIT industry has a diverse profile, however, it is largely comprised of equity REITs. REIT industry analysts often classify REITs in one of three investment approaches:

Equity REITs own real estate. Their revenue comes principally from rent. Property types include: shopping centers, apartments, warehouses, office buildings, hotels, etc.

Mortgage REITs loan money to real estate owners. Their revenue comes principally from interest earned on their mortgage loans or mortgage-backed securities. Chimera, through investment in mortgage loans or mortgage-backed securities, is a mortgage REIT.

Hybrid REITs combine the investment strategies of both equity REITs and mortgage REITs.

How Many REITs Are There?

There are over 180 publicly traded REITs operating in the United States today. Their assets total over $450 billion and their market cap totalled $360 billion in mid-2007.

Last Updated: 11/16/07