- What is REIT?
- The framework of REIT
- What are the different types of REITs?
- Why invest in REITs?
- Returns from REITs
- Taxation of REITs...And a lot more.
- The first option is to purchase land or an apartment.
- The second alternative is to invest in stocks of listed real estate companies.
- In the first option, your returns like rental income is fixed and guaranteed. But buying a decent sized apartment requires a huge investment. Even if you take a home loan, you will still have to manage the 15-20% down payment yourself.
What is REIT?A Real Estate Investment Trust (REIT) is a trust or an entity which owns, finances and operates income generating real estate. It works just like your mutual fund. To understand the working of a REIT, let’s take a hypothetical example. Suppose you wish to buy office space in a prime location in Mumbai with the aim to earn regular rental income. To buy the property you will have to shell out crores of rupees. But you don’t have such a huge amount on hand. So, you ask your ten friends to invest in the property. According to the partnership rule, the rental income you will earn after deducting maintenance costs will be equally distributed amongst all the partners. This is exactly how REITs work. A REIT scheme will use your invested money to buy physical real estate assets such as shopping malls, commercial spaces, hotels, apartments, etc. The maintenance cost of the property is deducted from the rent earned and the remaining profits are distributed among all the REIT unitholders in the form of dividends in the proportion of units held by them. This type of REIT is known as equity REIT because it gives dividends and capital appreciation to its unitholders. Now that you know what is REIT, let’s move ahead and understand the framework of a REIT company.
The Framework of a REIT CompanyAs the name suggests, a REIT company is a real estate trust registered with the Securities and Exchange Board of India (SEBI). So, there are many individuals involved in the process of creating a successful REIT company. To begin with, a sponsor is someone who starts the REIT company. They hold a substantial stake in the REIT. A sponsor could be a builder or any other person who buys and sells properties.Next is the trustees of the REIT which are appointed by the sponsors. The job of a trustee is to hold assets on behalf of the unitholders. The next component of an REIT is the REIT manager. His role is similar to a fund manager of a mutual fund company. The REIT manager manages the REIT assets and is responsible to make investment decisions. In return, he receives management fees from the REIT company.Next in line are the unitholders. These are investors like you and me who purchase the units of REIT. Unitholders can be resident Indians or even foreign investors. Lastly, the REIT company hires a valuer who values the assets of the REIT’s at regular intervals as per the SEBI rule.Apart from these, the REIT hires auditors, registrars, transfer agents and merchant bankers to carry out operational activities of the company. Just like a mutual fund company comes up with a new fund offer (NFO) similarly, a REIT comes up with an initial public offer (IPO) and the units of REIT gets listed on the stock exchange. Investors who think that the prices of real estate are going to rise in the future will invest in the REIT IPO. The accumulated corpus is then invested in buying commercial properties, malls and other real estate. According to SEBI, a REIT company must invest 80% of the accumulated corpus into properties which are fully constructed and could be given out for lease. And 90% of the income should be distributed to the unitholders in the form of dividends. So when you invest in a REIT, you earn dual income in the form of -
- Rental income collected from properties and distributed in the form of dividends to the unitholders.
- Capital appreciation of the property in the form of increasing NAV of the REIT scheme.
What are the Different Types of REITs in India?Even though REITs have been one of the preferred investment options in the U.S., India has welcomed REITs in 2019 only. The first REIT was introduced in India by Embassy Office Parks. It is an equity REIT. But there are many more types of REITs. So, let’s take a look at a few popular types of REITs across the world.
1. Equity REITIn case of an Equity REIT, the trust purchases and rents out real estate on its own to generate income for its unitholders. It is known as an equity REIT because the income generated is distributed in the form of dividends. Equity REITs can be further divided into -
2. Mortgage REITThe second type of REIT is a Mortgage REIT. An equity REIT buys a property and then distributes the income generated in form of dividends. But a mortgage REIT disburses loans to developers and other individuals for them to purchase the property. So, the income generated is the interest earned on the loan offered and is then distributed among the unitholders.
3. Hybrid REITThis REIT invests the accumulated corpus in a mix of equity REIT and mortgage REIT. So, you as a unitholder earn income from both the sources - dividends as well as interest.
Why should you invest in REITs?REITs are still among the lesser-known investment options in India. But it has the potential to create wealth for you. So, if you are someone who believes that the prices of real estates are going to rise in the future and you have comparatively less capital to directly buy a property, then REITs can give you the benefits of investing in real estate. Let us look at the advantages of REITs:
1. A steady source of incomeApart from capital appreciation, you get a steady source of income in the form of dividends. Here are the dividends generated by three REITs listed on the stock exchange. 1. The embassy office park REIT has distributed an average dividend return of 5.72% from June 2019 to July 2021. 2. Brookfield India Real Estate Trust REIT has offered an average dividend return of 5.99% from June 2021 to September 2021. 3. Mindspace Business Parks REIT has offered an average dividend return of 6.9% from August 2021 to November 2021.
2. Low investing ThresholdTo invest in a REIT, you don’t need to shell out lakhs and crores of rupees. You can start with as low as Rs. 10,000.
3. Professional managementIn a REIT, you don’t need to worry about finding a property to invest nor do you have to go through the hassles of registration and finding tenets. The REIT fund manager does it all for you. In return, he gets paid by the REIT company.
4. TransparencyREITs maintain utmost transparency in the investment process as they are strictly regulated by SEBI. Every year, the REIT company is required to file audited financial reports and disclose the real value of the assets post depreciation. These details also help the investors to analyse taxation opportunities, ownership of properties and a lot more.
5. DiversificationNow you can easily diversify your portfolio towards real estate as REITs are listed and traded on the stock exchanges. Moreover, many debt mutual funds also prefer investing in REITs to earn safe returns and diversify the portfolio.
Limitation of investing in a REIT
1. No tax benefitsThe returns you earn from REITs in the form of dividends are taxable. Moreover, while buying and selling properties, the REIT must also pay property tax which eats up an investors’ returns.
2. Less growthA REIT must distribute 90% of the profits in the form of dividends. Hence, it leaves less scope for the fund to grow further. To purchase new properties, the REIT must come up with a follow on public offer (FPO).
3. No control over the returns generatedA REIT fund invests your accumulated money into buying properties at different locations. Some locations may earn high rental income while others might earn low rental income. Now, you don’t have the option to pick locations with high cash flow to invest your money in. This is solely done by the property manager. If at any point you are unhappy with the returns generated, then you have no option but to sell the unit of REIT on the exchange.
Taxation of REITsThere are two types of returns that an REIT provides - dividend income and capital appreciation. Both of these have different taxation.
1. Taxation on REIT DividendsThe returns you generate from dividends are taxable in the hands of unitholders. It is taxed as per your tax slab.
2. Taxation on Capital Gains
- If you sell the units of REIT within one year from the date of allocation, then the returns are taxed at 15%.
- If you sell the units of REIT after holding it for one year from the date of allocation, then the returns are treated as long term capital gains and are taxable at 20% with indexation or 10% with no indexation benefit.
How can you invest in REITs?REITs are listed and traded on stock exchanges just like shares. You could simply purchase units and hold them in your Demat account. As of now, there are three REITs listed on the stock exchanges. Before investing in any of the REITs you must carefully look at the history of the return distribution which could be easily found on their websites. Also, look for the properties held by them through recent audited reports. This information will help you in analysing the best REIT to buy for the long term. Let’s take a look at capital appreciation of REITs since inception.
|REIT||NAV at inception||NAV as on 6th December 2021||Capital appreciation|
|Embassy Office Parks REIT||Rs 331.85 on 1st April 2019||Rs 360.22||8.55%|
|Mindspace Business Park REIT||Rs 303.7 on 3rd August 2020||Rs 320.98||5.69%|
|Brookfield India Real Estate Trust||Rs 266.67 on 8th September 2021||Rs 294.47||10.42%|
Here is a list of few REIT mutual funds available.
|REIT Fund||Net Asset Value||Asset Under Management||Expense Ratio|
|Kotak International Reit Fof - Regular Plan - Growth||Rs 9.9531||202.43 Cr||1.38%|
|Mahindra Manulife Asia Pacific Reits Fof||Rs 9.5219||35.35 Cr||1.53%|