Like Mutual Funds, Real Estate Investment Trusts (REITs) also have comprehensive organisational structures and operate with a Sponsor, Investment Manager and Trustee.
There is a lot of noise as well as interest of investors about the Mindspace REIT offer, resulting in huge over-subscription of the issue. However, before you put your money, you should know the nitty-gritty of investments in Real Estate Investment Trusts (REITs).
Like Mutual Fund (MF), REITs are also investment vehicles that own, operate and manage a portfolio of income generating properties. Unlike Mutual Funds that hold stocks, bonds and gold on behalf of its investors, REITs hold commercial properties that generate income for its investors.
Like MFs, REITs also have comprehensive organisational structures and operate with a Sponsor, Investment Manager and Trustee.
While the Sponsor is responsible for setting up of an REIT and transferring or undertaking to transfer assets, interest and rights in the SPV to the REIT prior to allotment of units to the applicants, Trustee is responsible for overseeing manager’s activities or operations and reviewing related party transactions and to ensure that the money is managed in the interest of unit-holders.
Investment Manager is responsible for management of REIT assets and ensuring that the assets have legally enforceable titles and material contracts are enforceable under the law and also makes investment decisions with respect to the underlying assets of the REIT including any further investment or divestment of assets.
To minimise the execution risk, Investment Managers need to ensure that at least 80 per cent of total value must be comprised of completed and income generating properties and should avoid speculative land acquisitions.
Moreover, in order to avoid excessive leveraging, approval from majority unit-holders will be required if debt exceeds 25 per cent of asset value and in any case, debt cannot exceed 49 per cent of asset value.
To ensure strong corporate governance, it is essential to have 50 per cent independent directors on the Board. Moreover, a REIT Manager can be removed with 60 per cent approval of unrelated unit-holders, which would ensure alignment with unitholder interests due to a performance linked management fees structure.
The returns on REITs investments are driven equally by regular cash distributions and capital appreciation and to ensure free cash utilisation, minimum 90 per cent of distributable cash flows to be distributed semi-annually.
Investments in REITs are tax efficient as dividends are tax exempt and sale of listed units attract 10-15 per cent capital gains tax.
Investments in REITs are professionally managed freely transferable securities listed on stock exchange with no entry/exit load, in which an individual investor may invest minimum Rs 50,000.
However, investments in REITs may face the following risks:
- Rising interest rate leading to higher yield expectation and resultant sell off in REIT prices.
- High vacancy rate of underlying properties.
- Quality of Tenants and their creditworthiness.
- Lease rates vis-a-viz., adjacent properties.
- Property location turning unfavorable.