Real Estate Investment Trusts

Contributed by: Meera Siva

Chennai chapter of the IAIP conducted a speaker event on Real Estate Investment Trusts (REITs) on April 10. The speaker, Nitin Goel CFA, is the Partner for the Development Funds at Milestone Capital Advisors. He has over 16 years of experience across real estate private equity investments, structured finance and business strategy. Having vast experience in sourcing investments, structuring JVs and exits across various geographies in India, Nitin previously served as the Co-Fund Manager of AIG Global Real Estate Fund, co-managing US$280 million India fund and as National Head, Origination – Real Estate Finance at ICICI Bank Ltd. Nitin is an engineer from MNIT, Allahabad and a MBA from IMT, Ghaziabad.

Highlights of the event:

Real Estate Investment Trusts own rent giving properties and distribute the income as dividends to investors. These instruments have existed in the US since many decades. Other countries such as Singapore and UK also have REITs and these are popular with investors who seek stable returns. The structure of REITs differs across countries – for example, in the US they can only hold fully constructed properties while in the Singapore they can also own under-construction properties. While commercial properties are most popular, residential REITs also exist globally.

REIT structure and listing rules in India were announced last year and taxation aspects were clarified in the recent Budget. REITs must own assets worth Rs 250 crore and the property they list on the exchange must be at least Rs 100 crore. They can own under construction property but this must be limited to 20 per cent of the portfolio value. REITs can list their assets on the exchange to raise funds. Retail investors can subscribe to these units, each worth Rs 1 lakh (minimum investment is Rs 2 lakh) and earn rental income from these assets as dividend. It is likely that only high grade (Grade A) assets with a good tenant profile will be listed as lower grade office and mall space may not find takers. 

Why REITs?

The attraction for an investor is that REITs are like holding rent yielding physical assets. Investors can benefit from capital appreciation and as the interest rates fall, profit from higher yields. The advantage to a property developer is that they can sell their assets to REITs to raise funds. DLF for example is among the developers looking to list their properties. Also, IT companies such as Infosys, HCL and PSU banks such as SBI and PNB own a lot of office space and could monetize their assets. In some cases, there may be some restrictions on it such as land subsidised by the Government.

Issues and outlook

There are many practical issues. For example, due to scarcity of high quality space, there is a price premium. High prices depress yields. Asset valuation, which is somewhat subjective but must be done on an ongoing basis, is another sticky issue. Properties are valued based on a cap rate that is dependent primarily on rent expectations. An under-construction property may have a cap-rate of 11-12 per cent while an office space in a desirable location and with good quality tenants may have a cap rate of 8 per cent.

There are other expenses – dividend distribution tax, withholding tax, asset management fees and property management fees -, which further reduce returns to around 7 per cent. Therefore, while REIT yields abroad are much higher than their risk-free rate, an Indian investor seeking safe and steady returns may not find local yields attractive. The current REIT structure is also not tax efficient for funds such as Milestone who own office properties.

An investor may not find enough market depth when selling their REIT units. Therefore, market making has to ensure that units are traded. Developers and funds are exploring REITs actively but it may be six months to a year before we may see a listing.

Members and candidates gained a perspective on this investment instrument that is likely to see traction in the coming year.

– MS