1. Understanding REIT’s
With the economies booming and the governments laying greater impetus on the development of the infrastructure and real estate, the Real Estate Investment funds hold inevitable significance to investors who are willing to invest in the real estate sector and reap profits through their investments.
Real Estate Investment Trust (REIT) is created with the prime purpose of channelizing the funds that could be invested into operational functioning or ownership of real estate that could further generate income for the investors. REIT gives investors, big or small, the golden opportunity to hold shares of the real estate investment trust by investing in it thereby benefitting them through good returns on the investment. It provides the advantage of portfolio diversification and long-term capital appreciation. REIT’s are a legitimate way of investing in the real estate sector as they have the provision of getting enlisted in the known stock exchanges.
2. History of REIT’s
REIT’s structured in the lines of mutual funds were first introduced in the United States in the 1960’s through Cigar Excise Tax Extension Act with the purpose of boosting real estate development by way of active investments from investors interested in holding stakes in the real estate sector. The rising upsurge in the real estate presented the opportunity of reaping huge returns on the investments made thereby bringing to effect, the real estate development projects and rewarding the investors financially.
REIT’s were first introduced in India by Securities and Exchange Board of India (SEBI) in 2007 almost 50 years after they were first incorporated as an investment vehicle. Subsequently, there were regulations framed to facilitate the operational functions of these investment funds which were revised and reformed thereafter. REIT companies listed on Indian stock exchanges are monitored and regulated by the SEBI to ensure adherence to industry practices and safeguard the interest of the investors.
3. Eligibility of REITs
For a company to be qualified as REIT, the following criteria need to be satisfied:-
a. 90% of the income must be distributed as a dividend to the investors
b. 80% of the investment must be in properties that generate revenue
c. Only 10% of the total investment must be in real estate under-construction
d. The company must have an asset base of 500 Crores
e. NAVs need to be updated twice in each financial year
4. How do REIT’s work
a. REIT industry boasts of a diverse profile that offers investors a chance to make investments in real estate-related funds. REIT’s could be classified as Equity REIT and MREIT
b. Equity REIT’s hold in their vicinity properties such as offices, hotels, shopping centers, condominiums and draw most of their revenues from the rent of these properties
c. MREIT’s look over the financing of the properties that may be residential or commercial in nature thereby drawing income from interest earned on the investment in mortgages or mortgage-backed securities
d. REIT’s provide quick and easy liquidation of the investments in the real estate markets. The growth story of the country dependent on the infrastructure developments contributes highly to the economy and related growth. The idea of REIT backed investments is to ensure the concrete structuring of the real-estate financing industry so that the investments made in the sector are channelized in the most legitimate manner. It is with this purpose that the REIT’s function in India to make the industry-backed financing more structured
5. REIT funds: Structure Formation and Implementation
REIT funds structured formation and implementation ensure that the investors of all financial capacity get to invest in the funds that contribute to the growth and development of the real estate thereby owing the right to hold a stake in the funds through their investments. In India government is taking necessary steps to ensure solidification of such funds so created to include common citizens’ participation in the investment formation of such funds. There have been some developments in this regard by way of the government passing Real Estate Regulation Bill. The bill in action is to ensure the rights of the investors investing in real estate development funds.
The Government also ensured the removal of Dividend Distribution Tax associated with the REIT funds which were up until the given development posing an obstacle in the implementation of the Real Estate Investment Trusts.
6. Advantages of Investing in REITs
a. REITs are not as capital intensive as a direct investment in property. Moreover, there are not many profitable investment opportunities left at present
b. It is easier to invest in real estate using REITs
c. Compared to direct investment in real estate, REITs have lower liquidity risk
d. REITs are regulated by SEBI; hence chances of fraud are very rare
e. These are transparent as they disclose the capital portfolio annually and semi-annually
f. These offer a relatively higher dividend as approximately 90% of income is paid as a dividend to the REIT investors
7. Objectives of REITs
The main crux of REITs is to give investors dividends generated from capital gains that are accrued from the selling of commercial assets. The REIT allocates 90 percent of its income as dividends to its investor’s. It provides a safe and diversified investment opportunity.
a. The REITs are transparent. There is a full valuation of the REIT on a yearly basis along with a half-yearly update
b. Diversification: As per the guidelines, REITs have to invest in at least two projects with the value of one asset comprising 60 percent of the investment
c. Low Risk: There is low risk involved in REITs as a minimum of 80 percent of the assets are invested in revenue-generating projects that are completed. The rest 20 percent are allocated to investments in equity shares of properties that are listed, mortgage-based securities, equity shares deriving at least 75 percent of income from real estate activities, government securities, money market instruments, cash equivalents, etc
8. Types of REITs
a. Equity REITs
They are owners of the real estate properties and lease it to companies or individuals to make money. The income is then distributed among the REIT investors as a dividend.
b. Mortgage REITs
They are not the owners but get EMIs against the property from the owners and builders. The earnings are via Net Interest Margin (difference of interest earned on mortgage and cost of funding the loan) which they distribute among the REIT investors as a dividend.
c. Hybrid REITs
Invest in both Equity and Mortgage REITs.
9. Difference Between REITs and Real Estate Mutual Funds
REITs and real estate mutual funds are different but they are similar as they both offer liquidity and a cheap way to get exposure to diversified & large capital real estate assets. Long-term investors have the potential to reap the rewards of dividend income and capital appreciation over a long period of time.
For retail or short-term investors with a low investible surplus, these real estate funds create an opportunity to invest in properties that otherwise may not be feasible to invest in. A real estate fund can invest in a real estate investment trust to offer benefits to investors, making REIT a part of the investment.
a. Real Estate Mutual funds offer wider diversification than the REITs based on the investment strategy and have the benefit of experts and professionals managing their portfolio, unlike the REITs
b. REITs distribute a higher amount of dividend each year to its shareholders or investors than the real estate mutual funds
c. The value of real estate has a tendency to increase during times of inflation as property prices and rents go up, thus giving a better return to the REIT investor
d. REIT or the Real estate mutual fund investment should be spread across several real estate categories or funds so as to minimize the risk and it should not be more than 10% of the portfolio
The RBI’s proposal to allow banks to invest in REITs will propel a lot of companies to bring in their REITs and get it listed on the exchange. REITs have also been approved by SEBI and thus are looked upon as a sure measure by the Indian government to pool in greater investments in India’s realty sector. Once the REITs are up and ready for the investment we can hope to see an increase in the retail sector participation.