REIT Accounting and FFO: A Primer for Bankers

Introduction

Realty Income, the net lease real estate investment trust (REIT) that owns thousands of freestanding stores, warehouses and other properties leased to single tenants, reported net income available to common stockholders of $1.06 billion in 2025. Its funds from operations (FFO), the measure REITs and their investors actually use, was $3.86 billion, more than three and a half times as much. The difference was mostly $2.5 billion of depreciation and amortization on its properties, plus $434 million of impairments, less $178 million of gains on properties it sold, according to its 2025 annual report.

Few industries rely so completely on a measure other than net income. The reason lies in how US generally accepted accounting principles (GAAP) treat real estate, and in the tax structure of REITs themselves. This primer explains both and how bankers use the industry's measures; the real estate guide covers each in depth.

Under US GAAP, buildings are carried at cost and depreciated over their useful lives, typically decades, regardless of what happens to their value. For most businesses, depreciation approximates the consumption of assets that wear out. For well-located real estate, values often hold or rise over time, so depreciation charges a cost the owner does not economically bear, while the gain shows up only when a property is sold. Net income therefore understates the recurring earnings of a property portfolio, sometimes by a large margin, the argument developed in the real estate guide's article on why GAAP understates REIT economics.

The REIT structure adds a second difference. Under Section 857 of the Internal Revenue Code, a REIT that distributes at least 90% of its taxable income (excluding net capital gains) and meets tests on its assets and income pays no corporate income tax on what it distributes, as explained in the real estate guide's article on the 90% distribution requirement. Because most earnings are paid out as dividends, investors focus on the cash a REIT generates to fund them, and earnings measures that strip out non-cash depreciation are closer to that.

Acquired Leases Add Amortization

Acquisition accounting makes the depreciation larger still. When a REIT buys a leased property, usually accounted for as an asset acquisition, it allocates the price among land, which is not depreciated, the building, and intangible assets and liabilities for the leases already in place and for rents above or below market. The in-place lease intangibles are amortized over the remaining lease terms, often much shorter than a building's life, so an active acquirer carries a large amortization charge: Realty Income amortized $886 million of in-place leases in 2025, about a third of its depreciation and amortization.

The industry body Nareit defines funds from operations as net income adjusted to remove the main effects of real estate accounting, a definition restated in its 2018 white paper.pdf). Almost every listed US equity REIT reports it, and many also report a normalized or core FFO that removes further items such as merger costs.

Funds from operations

A non-GAAP measure defined by Nareit as net income excluding depreciation and amortization of real estate, gains and losses from sales of certain real estate assets, gains and losses from changes in control, and impairments of depreciable real estate, with adjustments for unconsolidated partnerships and joint ventures. It is the standard earnings measure for REITs.

Realty Income's reconciliation shows the adjustments:

FFO grew 11.3% in 2025 but FFO per share only 6.0%, largely because Realty Income's share count rose as it issued equity to fund acquisitions. Per share growth is the figure investors focus on, since a REIT can grow total FFO simply by raising equity and buying more properties.

Adding back impairments has a consequence worth noticing. Realty Income's impairments rose to $434 million in 2025, mainly on properties it sold or expected to sell and on properties leased to tenants in bankruptcy or financial difficulty. FFO excludes those charges, so tenant credit problems reach FFO only through lost rent and provisions for credit losses. Tracking impairments and the share of rent from weaker tenants alongside FFO shows risks that the headline measure leaves out.

FFO still contains items that are not cash and omits costs that are. Adjusted funds from operations (AFFO) moves closer to the cash available for distribution: it removes straight-line rent and other non-cash revenue, adds back non-cash compensation and debt cost amortization, and deducts recurring capital expenditure and leasing costs needed to maintain the properties. Unlike FFO, AFFO has no standard definition, and companies call it by different names, so comparisons need care, as the real estate guide's article on AFFO as sustainable cash flow explains.

The size of the adjustments depends on the business. Realty Income's tenants mostly pay for property maintenance under their net leases, so its recurring capital expenditure and leasing costs were under $10 million in 2025, and its largest AFFO adjustment was the removal of $169 million of straight-line rent recognized ahead of cash. An office or retail REIT, which pays for tenant improvements and leasing commissions, deducts far more. Realty Income paid dividends of $3.22 a share in 2025, about 75% of its AFFO per share of $4.28, a payout ratio that shows how comfortably the dividend is covered.

Three further measures complete the toolkit. EBITDAre (earnings before interest, taxes, depreciation and amortization for real estate), also defined by Nareit, adjusts EBITDA to exclude gains and losses on property sales and impairments of depreciable real estate, and it is the basis for REIT leverage ratios: Realty Income's annualized pro forma adjusted EBITDAre was about $5.4 billion at the end of 2025, against net debt of $29.3 billion, a leverage ratio of 5.4 times. Net operating income (NOI), property revenue less property operating expenses before depreciation, interest and corporate overhead, measures the performance of the properties themselves and, divided by a market capitalization rate, gives their value. And net asset value (NAV), the estimated market value of the properties less debt, is the yardstick against which REIT share prices are compared, covered in the real estate guide's article on net asset value.

How REITs Are Valued

REITs trade on multiples of FFO and AFFO per share, much as other companies trade on price to earnings, and on their premium or discount to net asset value. Dividend yield, and the growth of dividends and AFFO per share, matter more than for most equities because REITs pay out most of their earnings. Enterprise value to EBITDAre is used for comparisons across capital structures, and leverage is measured as net debt to EBITDAre.

For bankers advising REITs on acquisitions, offerings or mergers, the industry's measures are the language of every model and every presentation. Accretion and dilution is measured on FFO or AFFO per share rather than earnings per share; purchase price allocations for property acquisitions, usually asset acquisitions rather than business combinations because the value lies in buildings and in-place leases, determine future depreciation that FFO then adds back; and leverage targets are expressed in net debt to EBITDAre. Many REITs also hold their properties through an operating partnership, issuing partnership units that can be exchanged for shares to property sellers who want to defer tax, the structure explained in the real estate guide's article on UPREIT and DownREIT structures, and those units belong in the share count used for per share measures. The GAAP statements still matter, for impairments, tenant credit and the notes on debt and leases, but the decisions are made on the measures that strip out real estate accounting.