Real Estate Investment Trust (REIT)

For most people investing in a property is like a dream, let it be residential, shopping mall, office building etc. what we generally mean by investing in real estate is either by owning them or purchasing shares of some real estate companies. But here we are talking about investor who wishes to invest directly in real estate. REIT offers investor who couldn’t afford to do so because of their financial capability to invest directly in real estate.

What is a REIT?

It is a corporation which primarily invests in real estate. But to get this designation they have to pay 90% of their income as dividends to share holders. By doing this they get exemption from corporate tax in most of developed countries.

Simply put, Indian real estate market is booming like any thing right now. Property prices are on exponential rise in tier I and tier II cities. Now you want to cash on this opportunity by buying some property. But is it possible for every investor like you and me?? This is a big question. So what you can do instead of this is to invest in some REIT (Just for explaining the concept, because as of now we don’t have any REIT in India). Now your money goes directly in real estate.

We can define REIT as a security that trades on major stock exchange and Invest directly in real estate.

Forms of REIT

Depending upon where they invest i.e. property, mortgage or a mix of them they can be classified as equity, mortgage or hybrid REIT respectively.

Equity REIT: They invest in their own property. This means they buy property, manage that and whatever profit earned pass back to shareholders. In this type of REIT rent from the property is main source of revenue. . Equity REITs tend to specialize in owning certain building types such as apartments, regional malls, office buildings or lodging facilities. Some are diversified and some are specialized.

Mortgage REIT: This kind of REIT primarily invests and owns property mortgages. They loan money for mortgages to owners of real estate, or purchase existing mortgages or mortgage-backed securities. Their revenues are generated primarily by the interest that they earn on the mortgage loans.

Hybrid REIT: they combined feature of Equity and Mortgage REITs.

Apart from this classification REITs can also be classified on the basis of where they invest, like shopping malls, office buildings, apartments, warehouses and hotels.

Structure of REIT

(source: http://www.zerinproperties.com/)

Unit holders invest in REIT. REIT on behalf of investor appoints managers for Asset management service. Money pooled from investor then invested in property. There is a property manager who for a fee provides property management services. Trustee is appointed to look after interest of unit holders.

Property generates income, after all fee and expenses the remaining net income is in hand of REIT. REIT has to distribute atleast 90% of this to unit holders.

From shareholder’s perspective

Question arises why one should after all invest in REIT, what is the advantage and disadvantage that REIT investment has. Advantages are Stable and recurrent income, Diversification, Professional management, Liquidity, Affordability and Convenience. Risks: Distribution is subject to cash availability, Returns are not guaranteed, Loss of control over investment, Market factors.

Qualification for a corporation for REIT designation

In order to qualify for the advantages of being a pass-through entity for U.S. corporate income tax, a REIT must:

· Be structured as corporation, trust, or association

· Be managed by a board of directors or trustees

· Have transferable shares or transferable certificates of interest

· Otherwise be taxable as a domestic corporation

· Not be a financial institution or an insurance company

· Be jointly owned by 100 persons or more

· Have 95 percent of its income derived from dividends, interest, and property income

· Pay dividends of at least 90% of the REIT's taxable income

· No more than 50% of the shares can be held by five or fewer individuals during the last half of each taxable year

· At least 75% of total investment assets must be in real estate

· Derive at least 75% of gross income from rents or mortgage interest

· No more than 20% of its assets may consist of stocks in taxable REIT subsidiaries.

(Source Wikipedia)

REIT in India

India's combined commercial and residential real estate market is valued at $12 billion, which is around 2 percent of the country's GDP and 2 percent of total stock market capitalization. And it is only getting larger. The real estate market is growing at a rate of 30 percent per year and expected to reach $90 billion within the next 10 years.

India is right now in process of setting up legislation for this. Once introduced these Indian REITs (country specific/generic version I-REITs) will help individual investors enjoy the benefits of owning an interest in the securitized real estate market.

According to Reuters (28h Dec 2007) SEBI has proposed setting up of real estate investment trusts (REITs), paving the way for wider participation by retail investors in the country's booming real estate sector. Under the draft guidelines issued by Securities and Exchange Board of India (SEBI) scheduled banks, public financial institutions, insurance companies and corporate will be eligible to set up a REIT, with initial networth of 50 million rupees.