Tuesday, 26 August 2014

REIT: A Good Move For Real Estate

Good news for the cash-strapped real estate and infrastructure industry. The capital market regulator Securities and Exchange Board of India (Sebi) has just approved the final guideline for real estate investment trusts (REIT) and infrastructure investment trusts (InvIT). The twin move will give the real estate and the infrastructure sector easier access to funds and create new options for investors to invest. For the sake of this article, however, we shall restrict the discussions on how REITs will have positive impact on the real estate industry.

Though the initiative for REIT started six years ago, the BJP government fast-tracked the move after the Finance Minister announced in the Budget that the government will have friendlier tax norms for REIT. In simple terms, REITs will channelize investments from wealthy individuals and institutions to the real estate sector through units sold by REITs. Like mutual funds collecting money from investors and investing in company shares and other financial instruments, REITs will invest money in real estate industry. The realty industry is thrilled as experts believe that $10-$15 billionworth of investment will be infused through REIT in a couple of years.
The nature and the size: The Sebi guideline says all REIT schemes will be close-ended and the minimum asset size of a REIT is Rs 500 crore while making an initial offer.REITs are permitted to raise funds only through an initial offering of units to individuals and institutional investors (Indian or foreign).The minimum issue size has to be Rs250 crore, the minimum subscription size for units on offer will be Rs2 lakh and at least 25 per cent of the units have to be offered to the public.It is a good idea to keep the minimum subscription at Rs 2 lakh because high net worth investors are expected to take informed decisions and have better risk-taking abilities than small investors.

 As the schemes will close after raising funds in a specified time period, the promoters of REITs will focus more on long term sustainable return rather than being in a perpetual mode of raising more and more money in an open-ended scheme. Once invested, REITs will be allowed raise money through follow-on offers, rights issues or qualified institutional placements and the trading lot for such units will be Rs1 lakh, Sebi said. To facilitate liquidity, units will be listed for trading; REITswill undergo yearly valuation and declare its net asset values (NAVs). Surely, Sebi has paved the way for new investment avenue in India, on the lines of developed markets like the US, the UK, Japan, Hong Kong and Singapore.

 By lowering the minimum asset size to Rs 500 crore from Rs 1000 crore suggested in draft, Sebi has rightly opened up the possibility of creating more number of REITs. This, in turn, will enhance competition among the entities, make more funds available to the realty sector and attract more foreign investors.

 Investment restrictions: The investments norms are aimed at making REITs robust and attractive. To ensure that REITs generate continuous returns through rental income and capital gains, Sebi said at least 80% of the REIT’s assets is to be invested in completed and revenue generating properties. This means bulk of the money will be used to buy completed properties enhancing the liquidity of the developers and lower their dependency on banks. A realty consulting firm estimated that 80-100 million sq ft of office space worth around Rs 60,000 crore may qualify to be acquired by REITs. 

Twenty percent of assets can be invested in properties under development, mortgage-backed securities, in shares and bonds of realty companies and in government securities. REITs, however, are not allowed to invest more than 10% in properties that are under construction.
The ownership structure: To make ownership of REITs broad-base Sebi has stipulated that REITs have up to three sponsors, with each holding at least 5% and collectively holding at least 25% for a period of at least three years from the date of listing. Subsequently, the sponsors’ combined holding has to be at least 15% throughout the life of the REIT. This will ensure only serious players promote REITs and they remain committed to the business.
Tax irritants: The real estate industry would like to see some changes in the tax norms for investing in REITs. Tax experts are of the view that developers and institutional investors will have to pay long term capital gain tax at 20% if they invest and sell units of REITs 12 months after purchase, unlike retail investors who are exempt from this tax. Another irritant is the levy of stamp duty when a property is sold to a REIT. Stamp duty being a state subject and very high in some states, they will lead to lower realisation in a property transactions. To make the REITs more effective and attractive the government should remove these impediments.

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