India plans to open REIT market

India is placing the groundwork in an attempt to make real estate investment trusts tax-exempt, enabling trades on public exchanges, a move which may help unlock as much as $20billion of listings.

Regulations on taxation are to be amended, as announced by Finance Minister Arun Jaitley on 10^th July. The stock-market regulator is in preparations to allow REITs to be traded on exchanges, as reported by Edelweiss Securities Ltd.

The establishment of REITs will provide a new funding source to Indian developers who have struggled to reduce debt, as well as give investors the ability to purchase into the country’s property market. Property broker Cushman & Wakeman have estimated assets which may qualify to be included in REITs could reach $20billion by 2020. In the first three to five years, as much as $12billion may be raised.

The regional director of capital markets at Cushman & Wakefield in Singapore, Priyaranjan Kumar believes REITs have the potential to be the game changer for India’s property sector. Much needed transparency at least in the commercial sector may be forced, as reliance would be lowered on financing from banks. Developers would have an incentive to own and manage assets with a long-term view.

Prime Minister Narendra Modi has promised changes within India’s property market, valued at $66.8billion in the year up to March 2011, according to the latest data from India Brand Equity Foundation, a government division promoting commerce.

REITs are publicly traded, pool investor money to purchase real estate such as rental housing, shopping malls and office buildings. Cushman & Wakefield believe India’s REIT market has the potential to rise and rank amongst the top five markets in Asia by market capitalisation.

As the Securities & Exchange Board of India released the first draft of guidelines for REITs during 2008, final approval was never given due to the lack of clarity on taxes and the global financial crisis impact on the investment climate, according Knight Frank LLP’s June report. Since then, the regulator released an updated set of guidelines during October, outlining eligibility criteria for the setup of REITs.

REITs will have to pay out at least 90% of their net distributable income to investors as part of the tax-exempt status requirement.

The stock regulator explained the minimum initial offer size should be 2.5billion rupees ($42million) and the public float should be at least 25%.

Under the current proposal, initially only domestic and foreign institutional and high-net-worth individuals will be allowed to invest, as retail investors will be allowed to participate as the market develops later on. The minimum investment would be set at 200,000rupees.

To aid in developing the trusts, the Bombay Stock Exchange has established an 11 member advisory group of bankers, consultants, experts and legal professionals in the real estate industry, according to the July 10^th statement. A date has yet to be announced for the introduction of REITs.

India has numerous readied assets to be packaged into trusts. Cushman & Wakefield have found Asia’s third largest economy has been in the top five global office markets for at least seven years, averaging an annual net demand of over 30million square feet (2.8million square metres).

The South Asian country has the highest quality office space of around 350million square feet throughout its six largest cities, as reported by Jones Lang LaSalle Inc. Approximately 100million square feet of this office space are potentially available for REIT listings, valued at as much as $9billion.

Amongst developers who have income-producing properties and may introduce REITs include DLF Ltd. (DLFU), India’s largest developer by value, with approximately 28million square feet of operational rental assets, according to HDFC Securities Ltd. Further developers include Prestige Estates Projects Ltd, a Bengaluru based developer with 8million square feet and Phoenix Mills Ltd. (PHNX), a mall operator owning 6million square feet.

An introduction of REITs to the Indian market will reduce business costs for both foreign and local investors, as explained by the group executive director at DLF, Rajeev Talwar, in an e-mailed response to queries. DLF shares gained 2.1% to 202.5 rupees in Mumbai trading as the benchmark S&P BSE Sensex lost 0.3%. DLF shares have gained 21% this year, in comparison to a 22% gain in the Sensex.

Partner and head of real estate and construction at KPMG LLP, Neeraj Bansal commented that liquidity for developers will be aided in easing and access to retail investors will be offered to benefit from regular income and real estate appreciation.

Foreign institutional investors including Brookfield Asset Management Inc. and Blackstone Group LP, have been compiling rental assets to potentially create REITs within the country, according to a July 10th report from HDFC Securities. Blackstone is the largest private-equity landlord of office assets in India, with approximately 22million square feet, as Brookfield has approximately 15million square feet throughout the India.

However, not all agree that REITs will be the investors’ choice. The tax break may not be enough, as claimed by Adhidev Chattopadhyay, a Mumbai based property analyst of HDFC Securities.

Rents for assets included in the REIT is required to appreciate by 4% to 5% each year, followed by an increase in capital values, in order to be attractive. Indian REITs would have post-tax yields of 7% to 8%, lower than the Indian government bonds with yields of between 8% and 9%.

 

The government must consider the differing stamp duties for purchase and sale of assets in India, currently ranging from 5% to as high as 14% across the country.

Interest rates of the economy are require to decline meaningfully from here on for a REIT to become a viable financial vehicle, according to an analyst at IIFL, Bhaskar Chakraborty.

The Reserve Bank of India’s benchmark repurchase rate is at 8%, the highest following Pakistan among 11 Asian economies observed by Bloomberg.

The introduction of REITs will aid India’s market in becoming more institutionalized, according to the joint managing director of capital markets at Jones Lang LaSalle India, Shobhit Agarwal. This is as it is believed the legislation has arrived at the right time, benefitting business, investors and markets.

The REIT market in the Asia Pacific region is worth over $250billion, according to Bloomberg’s data. Australia, Japan and Singapore are the region’s three major REIT markets. REITs and business trusts were the major fundraisers in Singapore’s IPO market during the past year.

Numerous countries have implemented the REIT framework but only a handful remain to retain investor confidence and grow consistently over time, adds Kumar from Cushman & Wakefield. India has the correct underlying dynamics to fuel the industry’s growth. It is not only a matter of time to tell if the potential is fully realised.