With the Indian real estate sector in the throes of a severe liquidity crunch, Real Estate Investment Trusts or REITs offer a funding lifeline to foreign and domestic investors to pump badly-needed money into the market. The overwhelming response to the launch of India’s first REIT by Embassy Office Parks - and its superlative performance - have propelled India into the league of mature markets of developed nations with a proper REIT structure in place.
Global investors have had their sights set on India’s burgeoning commercial real estate market for some time. With the success of the Blackstone-Embassy REIT, a positive signal has gone out to all global investors to stake their claim. At the same time, REITs have opened fresh possibilities and new investment avenues for domestic retail investors. The success of REITs in India could have an overarching effect on the entire real estate sector, and could also trickle down to asset classes such as retail and logistics.
Defining REITs and their Benefits
REITs are investment instruments that pool capital from investors to purchase and manage income-yielding real estate assets or mortgage loans and can be traded on major stock exchanges like BSE. These instruments would also enable banks to free up their balance sheets by reducing loan exposures and creating headroom to finance fresh projects.REITs are considered viable investment vehicles because of multiple advantages:
With a low entry point for investors, it’s easier for many to add commercial real estate to their portfolio at a much lower investment. REITs offer handsome returns with projected ROI pegged between 12-14 percent in the long term, with minimum risks. These investment instruments are also less volatile than other asset classes such as the stock market, FDs, mutual funds, etc. because regulations maintain that 80 percent of the REITs listings should be of rent-generating assets. With institutional investors vying to park funds in Grade A office stock across top property markets, the rents for these listed properties is likely to grow. REITs guidelines also direct that 90 percent of the net distributable income after tax to be distributed to investors at least twice a year. CRE Developers’ Saviour
REITs couldn’t have come at a better time for Indian commercial real estate developers as they provide them with a viable funding alternative. They will help developers to improve their liquidity by unlocking the value of their assets and raise capital. Developers are also free to exit the commercial asset and focus on their core task of developing real estate. This option is particularly beneficial for developers facing a cash-crunch, as REITs give them an opportunity to make an exit when the property is fully operational, and reap maximum returns on investments.
The success of the Embassy Parks REIT has given global investors strong reason to increase their stake in multiple commercial assets across the country so that these could be listed under REITs in the future. Some of these global institutional investors who are eyeing the country’s real estate market via REITs include Japan’s NikkoAm StraitsTrading Asia, US’ North Carolina Fund, Taiwan’s Eastspring Investments, Malaysia’s Hwang Asia Pacific REITs and Infrastructure Fund, and Canada-based Sentry Global.
Retail REITs - Next in Line?
Retail REITs focus on owning and managing retail real estate and can be a viable instrument for mall developers to raise funds. The Indian retail scenario is bound to benefit from REIT funding, but issues like smaller lease tenures and business models must be ironed out before a retail REIT is launched.
In fact, several institutional investors have already bought stakes in malls, while many have funded greenfield assets. As India’s retail sector matures and gets more organized, a retail REIT seems likely in the foreseeable future.
Residential REITs - Imminent or Improbable?
It’s ironic that residential real estate, the sector that is in greatest need of institutional funding, is not included under REITs so far. This is in contrast to far more developed global markets like Singapore and the US, where residential assets are a part of REITs. In the absence of a sound and inclusive rental policy, India's REIT environment is simply not ready for residential REITs at this time.
Countries like Singapore and the US have a defined rental policy which makes it easier for them to host residential REITs. However, the recently announced draft Model Tenancy Act, 2019 is a step in the right direction and could make residential REITs a possibility sometime in the future.
The Future of Indian REITs
While an Indian residential REIT may not be imminent, the commercial sector is certainly buzzing with excitement. The Prestige Group is known to have plans to list its first commercial REIT soon and has already started segregating its residential, office, retail and hospitality businesses. The Bengaluru-based developer may also later launch a retail REIT in the near future.
Other players such as RMZ Corp, K Raheja Corp, Godrej Properties and Panchshil Realty are also said to warming up to the idea of launching REITs for their commercial assets.
The success of REITs in India will be based on the benefits it offers to investors. Currently, taxes such as capital gains tax are not conducive to attracting investors in large numbers. Mature markets like the UK have exempted REITs from income and gains tax on the property rental business. In other countries, there have been exemptions from stamp duty as well.
For India to truly join this elite club of global REITs markets, tax benefits must be offered to make the investment instrument more functional and lucrative in the long run.
Shobhit Agarwal is the MD & CEO of ANAROCK Capital.