Will REITs help to revive Indian real estate?

Will REITs help to revive Indian real estate?

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Real estate investment trust (REIT) is a company that owns, and in most cases operates, income producing real estate. It provides an additional investment avenue for the Indian investors. The REIT platform has already been approved by the Securities and Exchange Board of India (SEBI) and like mutual funds, REIT can help to pool money from all investors across the country. Many large foreign institutional investors are now eyeing a piece of the real estate market through REITs.

However, REIT should have had a history of at least ten years by now as it found the first mention in 2007 Budget. But matters did not proceed beyond issuing Consultation Paper and Draft regulations by SEBI as the market worldwide collapsed post Lehman Brothers crisis. The concept was revived once again when the Union Budget 2014–15 announced the provision for REITS to enable investors to collectively invest in commercial properties and earn a profit from such investments.

Real Estate Investment Trusts (REITs) operate almost like a mutual fund by pooling funds from investors and investing them in real estate assets. REITs are investment trusts that work similar to mutual funds with the only big difference being that instead of using the money collected from investors to buy stocks and bonds, in case of REITs capital is deployed to own real estate assets. The Trust will earn either from capital appreciation or through rentals on commercial properties like office, shops, malls and hotels. While rentals provide quick and regular returns, capital gains are usually long term in nature. It should be noted that REIT is essentially a framework for completed and revenue generating assets.

According to the guidelines, REITs will have to invest in a minimum of two projects with 60% asset value in a single project. Vacant and agricultural lands are kept out of the reach of REITs. At least 80% of the assets will have to be invested into revenue-generating and completed projects. The remaining 20% include under construction projects, equity shares of the listed properties, mortgage-based securities, equity shares that derive a minimum of 75% of income from government securities or G-secs, money market instruments, cash equivalents and real estate activities.

An investor can gain through real estate properties without actually investing in them. Further, With REITs, investors can start with as small a sum as Rs 2 lakhs, to secure units in exchange which is not possible if he wants to invest in a property directly as even small property in Metro cities cost several lakhs. The most important benefit will be that of quick and easy liquidation of investments in the real estate market unlike the traditional way of disposing of real estate.

The SEBI board has kept the minimum asset sizes to be invested in at Rs 500 crores to ensure that only well established players will float REITs. The minimum issue size would have to be less than Rs 250 crores. This provision, however, makes it impossible for the small and marginal players to use this avenue to raise money. It is, in fact, these small and marginal players who are currently facing liquidity crunch with no funding avenues available to them. Just as in case of equities stock exchanges have SME segment, REIT facility should also be made available to small players. Otherwise, these players will become extinct in due course and only selected few big players may remain active in the real estate industry which will not be a good thing for the industry in the long run.

SEBI requires Indian REITs to be listed on the exchanges to make an initial public offer to raise money. As with stocks, the investors will be able to buy the units from either primary and/or the secondary markets.

Listing of REITs in India as an investment product will boost the liquidity situation of cash-starved developers, which are struggling to find funds for their construction activities. REITs have been on the wish list of the Indian real estate sector for long. They are expected to bring in globally-accepted practices to real estate funding and revive the interest of both global and domestic investors in the sector.

SEBI had earlier explored frameworks such as Real Estate Mutual Funds (REMF), guidelines for which were issued in 2008. However, the scheme did not find favour with the finance companies with no REMF scheme launched till date.

Apart from stagnant demand and mounting unsold stocks, Indian real estate sector has been facing some other problems like increase in input costs, rising financing costs and inadequate funds. Bank lending, advance from home buyers and private lending are the major channels for real estate development in India. It is followed by offshore listing, IPO, PE funds, QIP, PE funds and NBFC lending, are other major sources of finance for the development of real estate sector in India. And now REIT will be new source of funding for real estate companies for whom advance from home buyers has virtually halted due to provisions in RERA.

Well organised real estate sector is a boon to an economy because of its potential to boost economic growth significantly. In India, real estate sector contributes more than 5% to the GDP of the country while providing employment to seven million people. Further, it is also true that the real estate sector impacts the demand for more than 250 ancillary industries, including steel, cement, paint, and building material, and the focus is at the construction industry. Therefore, healthy and robust real estate sector is essential for India to remain at the forefront of world economic growth chart. Keeping these facts in mind, REIT is a welcome move.