New Lease of Life to REITs and InvITs – Divaspati Singh, Principal Associate, Vivek Mimani, Principal Associate & Alvin Selvam, Associate, Khaitan & Co.

New Delhi, November 09, 2016: A REIT or InvIT is a business trust which is designed to own and operate income-generating real estate properties. These business trusts may own many types of commercial real estate such as rent generating office spaces, apartment buildings, warehouses, hospitals, shopping centres, hotels etc. REITs were conceptualized in 1960s in the United States of America in order to give investors an opportunity to invest and own a part of large-scale, diversified portfolios of income-generating real estate properties in the same way they would normally invest in other asset classes through the purchase and sale of liquid securities.

As of today, there are approximately over 500+ REITs spread over 22+ countries with a market capitalisation of more than USD 850 billion in the world. Whereas, Asia accounts for 12% of the global REIT market with approximately 140 REITs with a market capitalisation of over USD 118 billion. With Japan and Singapore being prime drivers of REITs in Asia with a market capitalisation USD 107 billion and 44 billion, India has jumped into the fray to claim its own fair share in the global REIT market. India requires over USD 1.5 trillion in investment in the infrastructure sector in the next 10 years to cater the needs of the growing population and to maintain a growth rate of over 7% in the coming years. These are compelling reasons why India should consider creating a conducive environment for REITs and InvITs to meet the infrastructural needs of the country.

In India, the creation of REITs and InvITs were approved through the notification of REIT and InvIT regulations in 2014,but due to tax uncertainties, regulatory hurdles and suspicions over practical work ability of REITs and InvITs there were no takers for REITs and InvITs until now. Pursuant to recent the recent board meeting, Securities and Exchange Board of India (“SEBI”)has proposed certain amendments to REIT and InvIT regulations to meet the recommendations of market players and to make it easier for the investors to invest in the instruments of REITs and InvITs. The recent round of relaxations comes after the special dispensation provided by the Ministry of Finance (MoF)in the last budget in relation to dividend distribution tax (DDT) whereby DDT is exempted for distributions made by special purpose vehicles (SPVs) to business trusts.While the regulations are yet to be amended, it can be said that tax benefits by MoF coupled with the proposed amendments by SEBI would hopefully give the market players greater flexibility to tap the market potential offered by REITs and InvITs.

The following amendments to REIT and InvIT regulations have been proposed by SEBI in its board meeting which took place on 23 September 2016:

SEBI has allowed REITs and InvITs to use to a two-tier SPV structure to invest in real estate and infrastructure projects. Since many real estate and infrastructure projects are held under project specific SPVs, this flexibility will not only help the industry participants at the time of structuring the REIT / InvIT, but will also give added flexibility at the time of exit.

The market regulator has removed the limit on the number of sponsors of REIT and InvIT. Currently, the investment vehicles can have a maximum of 3 sponsors and by removing the restriction SEBI has paved way for various stakeholders of project SPVs (e.g. such as joint venture partners, developers, private equity funds or group companies/associates of sponsors etc.), to become sponsors and take part in the REIT or InvIT. SEBI has also mooted the concept of ‘sponsor group’ for REITs. The ‘sponsor group’ is likely to include the sponsor and its group companies/associates. The introduction of the concept of ‘sponsor group’ may provide a REIT the option to either be solely held by 1 sponsor group and no individual sponsors or be held by more than 3 sponsors without any sponsor group.

The other major relaxations in relation to REITs are allowing REITs to invest upto 20% of the value of REIT assets in under-construction assets and expanding the scope of the definition of ‘real estate property’ under the REIT regulations. Prior to amendments, REITs were allowed to invest only upto 10% of their assets in under-construction which meant less access to capital by under-construction properties.This relaxation would provide necessary stimulus to the under-construction assets and the increase in the limit from 10% to 20% would enable the REIT manager to diversify and widen its portfolio and exploit the higher earning potential of under-construction assets which will result in higher returns for the investors.

Further, the markets regulator has proposed to clarify the definition of ‘real estate property’ which is expected to include assets like hotels and hospitals which are currently not included in the definition of ‘real estate property’ but fall within the purview of the definition of ‘infrastructure’. Upon widening the scope of the definition of ‘real estate property’, REITs would have access to a wide range of other lucrative income generating properties which would positively alter the economics of REITs and its investors.

SEBI has also reduced the mandatory collective sponsor(s) commitment in InvITs.This reduction of mandatory collective sponsor(s) commitment in InvITs from the current requirement of 25% to 15% would directly translate into additional liquidity in the hands of the sponsors for future infrastructure investments.

In addition to the above mentioned amendments, with respect to both REITs and InvITs, the Hold co is required to distribute 100% cash flows realised from underlying SPVs and the SPVs are required to distribute at least 90% of the net distributable cash flows to the HoldCo. SEBI has also rationalized the requirements for private placement and has clarified the definitions of the ‘valuer’ and ‘associates’ and ‘related parties’ respectively.

The other major recommendation by the industry players put forth in the consultation paper for amendments to the REIT regulations is relax the current requirement of having minimum 200 public unit holders, at all times, during the life of a REIT. This comes as a serious regulatory hurdle to the industry players as they cannot control the inter-se transfer of units among public members post initial offer, due to which complying with a minimum of 200 public unit holders at all times is highly impractical. However, it is surprising that the recent press release of SEBI has not considered the above.

The announcement of these proposed amendments to ease norms and promote growth of REIT and InvITs, arrived at after extensive consultation with the sector specific participants, is a welcome move by SEBI. The proposed amendments are expected to cater the expectations of the industry players and is definitely a step forward by SEBI in promoting REIT and InvIT instruments for capital raising and will facilitate growth in the sectors of real estate and infrastructure which should propel the sector specific participants to move ahead and explore REITs and InvITs framework with greater flexibility.

Corporate Comm India(CCI Newswire)