Real Estate Investment Trust (REIT) – An overview

Meeti shah

The Finance Act (No.2), 2014 and the recent, Finance Act, 2015 clearly spelled out tax treatment of all possible streams of income for all parties associated with a REIT which paved the way towards introducing an internationally acclaimed investment structure in India. More than 30 countries around the world have established REIT regimes, with more countries in the work. Let us understand the REIT regime in its true sense.

What is REIT?

Simply stated, REIT is similar to a mutual fund that invests in real estate properties which yield rent. It allows both small and large investors to acquire certain part of a property. REIT is a trust which pools in capital from many investors and invests the capital in income producing real estate.

Parties associated with REIT:

1. Trustee: A trustee oversees the activities of REIT. The trustee should be registered with SEBI as a debenture trustee and must be independent from other parties associated with REIT.

2. Sponsor: Sponsor is responsible for setting up of REIT and appointment of trustee. The sponsor(s) should collectively hold 25% in REIT for atleast 3 years and 10% thereafter.

3. Manager: Manager manages assets and investments of REIT and is responsible for operational activities of REIT. Manager should be a company or LLP or body corporate incorporated in India.

Typical REIT structure in India:

The REIT regime:

a. Securities and Exchange Board of India (SEBI) Guidelines:

Initially proposed in 2008 by the SEBI, the SEBI (Real Estate Investment Trusts) Regulations, 2014 were notified on September 26, 2014. Some key aspects of the regulations were:

• REIT shall be a Trust set up under the Indian Trust Act, 1882;
• Mandatory listing on stock exchange;
• Initial offer of units to third parties through public issue only;
• Investments by foreign investors allowed under REIT regulations;
• Minimum subscription size for units of REIT to be Rs. 2 lakhs;
• No preferential voting or any other right to any unit-holder;
• Investments only permitted in SPV (SPV must hold 80% of properties directly), properties, securities and Transferable Development Rights (maximum 20% of REIT’s assets);
• Atleast 90% of net cash flow to be distributed amongst unit-holders atleast once in 6 months;
• General period of disclosure of information, reports is half yearly;
• Atleast 80% of the value of REIT shall be invested in completed and rent generating properties;
• All assets to be located in India;
• Minimum of 75% of revenue to consist of rental and leasing income;
• Value of assets to be held by REIT should be atleast 500 crores;
• Mandatory holding period of assets to be 3 years;
• Investment in other REIT’s not allowed;
• A minimum of two projects allowed, directly or through the SPV, with not more than 60% of the value of assets in one project;
• Debt allowed upto 49% of total value of REIT’s assets.

b. Income-tax implications:

The Finance Act, 2015 brought about a much needed clarity on various tax implications relating to REIT. Also, a pass through status has been give to REIT’s for rental income which is a staunch move towards simplified and optimistic tax regime in India. Let us understand tax implications relating to various streams of income of a REIT and parties associated with REIT.

Concluding remarks:

Facts state that India has a rent yielding office inventory to the tune of 425 million sq. ft. valued in excess of USD 52 billion which shows that REITs have tremendous growth opportunities. Apart from this, there are other properties like warehousing, retail malls, shopping centers, school buildings, etc. which could be considered for REIT. REITs could enable even a small investor to own certain part of a huge property which earlier, was not possible. Also, since REITs shall be governed by the SEBI regulations, a greater transparency and accountability could be expected in the real estate sector in India.

Further, due to the recent tax clarifications given by our finance ministry, it is certain that a conducive investment climate shall be created in India in favor of REITs.

Points to ponder over:

• The exchange of shares for units of REIT, though not leviable to Capital Gains, may result into profits in the hands of investor which could be taxed under the provisions of section 115JB of the ITA i.e. tax on book profits.
• Requirement of 36 months in order to be considered as a LTCG may discourage the investors since in the case of an equity, holding period is of 12 months in order to be considered as a LTCG.