REIT – A New Era In The Real Estate Investments In India

The Indian market has evolved over the years, with increased participation of retail investors, in equity and debt products, due to increased awareness about investments in capital markets. Stock market investments through direct and mutual fund SIPs have been on the rise over the last few years. The Indian retail investors maybe warming up to equities more lately, but they have emerged as one of the largest net-providers of funds to the financial system.

Similar early signs  has been observed in newer investment products like Real Estate Investment Trust (REIT). It took nearly five years to introduce the first REIT listing in India. The first Indian REIT listing, saw its share price shoot up around 34 per cent in its first six months, shrinking the implied yield to less than 6 per cent-a remarkably low level for a market where risk is perceived to be high. Embassy Office Park, which was India’s first commercial real estate REIT, was subscribed 2.57 times of the issue size of Rs 4750 crore. This gave a welcome indication about investors’ willingness and appetite of diversifying investments in products apart from the traditional savings products. Today, there is optimism observed among the retail and institutional investors on the performance of REITs, even though it is a relatively new product for Indian investors.

A REIT is a pool of real estate assets that can generate regular income and is held like a mutual fund. Just the way in mutual funds one invests its capital and the capital is then invested in listed stocks. Similarly, with REITs, the investors funds are deployed in Grade A commercial office real estate assets. Through REITs, retail investors get an opportunity to invest in commercial properties which was only a desire, until recently.

REITs offer a variety of advantages to different parties including the sponsor to the fund, the investor and the property developer. Since REITs are mandated to distribute nearly 90% of their earnings in the form of dividends to the REIT investors, one can be assured of steady income stream (subject to occupancy in those assets). This could enhance the yield for investors in REIT funds. The REIT assets are normally secured by long-term leases and therefore risk to the investor is minimized. The long-term lease also ensures that the income flow of the REIT will continue in a more predictable manner. REIT brings in professional management to the pool of real estate assets, just like how mutual fund brings professional management into equities and debt. A REIT offers a new asset class to investors outside of traditional equity, debt, cash and gold and thus helps diversify the risk. They also become a fairly liquid asset over a period of time, just like mutual funds. Since the real estate is traded in the form of securities, the creation of demand and supply is much easier. Investors in REIT do not have to worry about entry and exit costs.

The long term prospects of any new investment avenue, depends on the returns offered compared to the existing options. Returns from REITs are made up of regular rental income as well as capital appreciation on the underlying real estate asset. Rental incomes provide definite and stable returns, while the capital appreciation provides equity like returns. REITs globally have been able to deliver high risk adjusted returns as they strive to deliver the best of equity and debt market returns. Being hybrid, REITs also have an advantage of being less susceptible to volatility in equity markets and deliver steady returns in the long term. REIT operators who have prudently managed their debt are in a better position to expand and increase unitholder returns.

It is noteworthy to mention that due to support of Securities and Exchange Board of India (“SEBI”) and Government of India through Ministry of Finance (“MoF”), the first Indian REIT came into existence in April 2019.

SEBI as a regulatory authority for capital markets, ensures to safeguard the investments and to increase more participation in capital markets from retail investors, has been proactive in undertaking several policy initiatives which have been beneficial for further development of the product.

Some of the recent initiatives include:

* Flexibility for change in Sponsors for REITs / InvITs
* Reduction in the perpetual lock in requirement for the Sponsor to align it with those applicable for IPOs
* Inclusion of mutual funds and insurance companies as “strategic investors” to attract a broader range of strategic investors
* SEBI has progressively made changes to increase non institutional participation, and has reduced the trading lot size from Rs. 1 lac to Rs. 50,000
* Provisions for enabling further capital raises in REITs, which will help further growth of REITs
Permitting encumbrances of REIT units to allow Sponsor to raise funds

Further, MoF has made necessary tax law amendments including:

* Recognising REITs as tax pass-through vehicles (for dividend and interest income from its investments in a special purpose vehicle (SPV)
* Exemption from tax on dividends from SPVs to REITs
* No capital gains / MAT on swap of SPV shares against the units of REIT
* Lower tax withholding of 5% in the hands of Non-resident Investors on Interest income

India has attracted USD 43.5 Billion of institutional investments in Indian real estate during the period 2016-20. This has been roughly five times the investment of USD 9.4 Bn which was made in the previous five years. Private Equity players have seen value in the Indian commercial real estate. Marquee PE brands have invested and now own quality office space assets in India.

Amidst the COVID-19 lockdown, there seems to be action in the commercial realty space, especially Grade A corporate office space. Publicly available data shows the following : major IT brands as Google, Accenture, Intel have signed lease deals in India. RMZ, owners of office properties in southern India, has closed rental deals with global firms. Mindspace Business Parks, of the K Raheja Corp group in its addendum filed recently stated that it has leased 7 lakh sq ft since April 2020. Brookfield Properties, global real estate services company Brookfield Asset Management has leased over 3.50 lakh sq ft office space in Mumbai’s business district BKC to five corporate clients. The Blackstone Group raised over $300 million by selling an 8.7% stake in Embassy Office Parks REIT through block deals.

Growing knowledge of the product will ensure acceptability and gradual increase of retail interest in this segment. The instrument will enable retail investors to participate in the hopefully the growing  opportunity ahead in the commercial real estate space.