Real Estate Investment Funds (REITS)

June 12, 2015 Real Estate Investment Guide 3 min read
Real Estate Investment Trusts (REITs) – Is there a future ?

Is Real estate investment trust, the future of India & impact of it on stock market

In the developed world, REITs came into existence several decades ago and gained huge popularity over the years. Why is it that India, a rather late entrant into this arena, has been simply unable to kick-start the REITs?

REITs – Origin & Structure

The first draft of guidelines for REITs was released by SEBI in 2008 but in the wake of global financial crisis and a lack of clarity on taxes, it failed to get consent. It was only in August 2014 that SEBI finally gave its nod of approval by allowing Indian brokerage firms to launch REITs. A REIT is an investment trust which invests in income-generating real estate assets like commercial, residential properties with the objective of creating return for its unit holders. It represents a great opportunity for retail investors to participate in the real estate sector without having to buy a commercial property. For the developers, REITs will facilitate easier access to funds and lower their cost of capital. 

As per the SEBI directive, REITs are allowed to invest in commercial real estate assets, either directly or through special purpose vehicles (SPVs). REITs have to first get registered, raise funds through an IPO and their units have to be compulsorily listed on exchanges. By structure, they are required to distribute at least 90 percent of their earnings as dividends to the investors. A REIT should hold at least 80% of its assets in completed and rent generating properties.The remaining 20% of assets can be invested in relatively riskier end of the sector like under-construction properties, mortgage-backed securities etc. The entry barrier is low with a minimum subscription of Rs 2 lakhs for an IPO and a stock trading lot size of Rs 1 lakh in the secondary markets.

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Reality of the Realty

In the Union Budget 2015-16, the Finance Minister made announcements to rationalize the capital gains tax regime for the REIT sponsors and facilitate the path for listing of REITs. It was proposed that the rental income arising from the assets directly held by the REITs should be allowed to pass-through and to be taxed in the hands of REIT unit holders by Indian brokerage firms.

While the industry experts welcomed the intention to boost REIT listing, the measures were found lacking on two major counts – one, corporate taxes and levies on dividend distribution and secondly, no exemption of stamp duty and taxes when a sponsor seeks to transfer assets to a REIT. Therefore regardless of the tax sops announced in the budget last month, the investor response continues to be lukewarm, to say the least.

According to the SEBI Chairman, one can draw solace from the fact that it took around 5-6 years for the REITs to successfully take-off in the United States and there is no reason to lose all hope. However, it is the taxation issues that have made REITs a non-starter despite a favorable macro-economic environment and the eagerness shown by prospective issuers. To be able to attract foreign investors, analysts strongly feel that India must attempt to replicate the REIT models of US, Singapore or Japan.

Moreover, REITs would fail to provide a competitive yield to investors in comparison to the returns on bank deposits or government bonds. There also exist a number of hindrances like lengthy registration process, heavy stamp duties and dismal outlook for rental income growth in India.

According to a Cushman & Wakefield report, the assets qualified to be included in REITs are expected to touch $20 billion by 2020. This is clearly an indication of the huge potential for India to become a REIT hub. International investors are keen to include India in their portfolios and at the same time, prospective issuers are eager to issue units and bring in returns. To conclude, the Government and SEBI desperately need to look into the key issues and adequately resolve them at the earliest.

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