By Shreya Routh, (firstname.lastname@example.org)
The SEBI in its Board Meeting on 18th September, 2017approved several changes to the regulations issued for REITs. Before we start discussing the changes approved, let us quickly recap the way in which a REIT operates. REIT is a form of alternative investment vehicle. The working mechanism of a REIT involves purchase of commercial properties and then providing them on rent to tenants. The funding is done through issuance of units to public which are tradable on stock exchanges. The main advantage of a REIT structure is grounded on the tax exemptions that it receives.
Since, REITs mechanism observed a complete downfall and the fact that till date no REIT has been listed with SEBI, the proposed amendments come as a saviour intending to gear up the market for REITs.
In this write up we intend to discuss the impact of the changes approved by the Board.
Changes approved by the Board
SEBI in its Board Meeting on 18th September, 2017 made certain amendments to the SEBI (infrastructure Investment Trusts) Regulations, 2014 and SEBI (Real Estate Investment Trusts) Regulations, 2014 (referred to as ‘REIT Regulations’). The text of the amendment has been reproduced as under:
“In order to facilitate growth of Infrastructure Investment Trusts (InvITs) and Real Estate investment Trust (REITs), SEBI Board, has approved certain changes in the captioned regulations, which, inter alia, include the following:
1. Allowing REITs and InvITs to raise debt capital by issuing debt securities
2. Introducing the concept of Strategic Investor for REITs on similar lines of InvITs
3. Allowing single asset REIT on similar lines of InvIT
4. Allowing REITs to lend to underlying Holdco/SPV
5. Amending the definition of valuer for both REITs and InvITs
The Board, after deliberations, decided to have further consultation with the stakeholders on a proposal of allowing REITs to invest at least 50% of the equity share capital or interest in the underlying Holdco/SPVs, and similarly allowing Holdco to invest with at least 50% of the equity share capital or interest in the underlying SPVs.
Allowing REITs and InvITs to raise debt capital by issuing debt securities:
In the recent scenario, REIT could raise external funds only through borrowings from banks and other financial institutions. However, it is pertinent to note that since banks can provide credit only upto a certain limit and are subject to deposit constraints, complete fulfilment of fund adequacy was not being attained with such limited borrowing sources. Hence, with a view to provide wider sources of borrowing, SEBI in its recent amendment has allowed REITs to raise debt capital by issuing debt securities. With this opportunity, substantial pool of investment avenues can now be tapped by a REIT.
Prior to this proposal for amendment, REITs were allowed to issue only equity oriented securities, which offer indicative yields and not fixed yields. Issue of debt oriented REITs and InvITs will offer fixed return to investors which give a boost towards subscription of such securities.
The overall debt limit for REITs is set at 49% of its total value of assets. It does not require unit holders’ approval to raise up to 25% of its total asset value through debt. Any fund raising above this threshold limit shall require approval of the unit-holders and REIT will have to obtain a credit rating. According to REIT Regulations, the REIT is expected to achieve 25% minimum public holding within three years of listing.
This change is also a possible answer to the controversial question on whether trusts can issue debt securities.
Introducing the concept of Strategic Investor for REITs on similar lines of InvITs
The regulatory framework for infrastructure investment trusts allows institutional investors also known as strategic investors to subscribe to the securities of the applicable issue prior to it being supplied by the public.This provides surety and gives a degree of security from under-subscription. So far only two InvITshave been listed on the stock exchange, i.e., IRB InvIT Fund and India grid Trust, and no REIT has been listed so far.With the recent amendments, REITs can also offer securities to strategic investors prior to the subscription by public. Presence of strategic investors will give comfort to the other investors.
Allowing single asset REIT on similar lines of InvIT
Previously REITs were required to hold atleast two assets with maximum 60% invested in a single asset. Now this provision has been done away with. REITs can now hold a single asset. The provision also stated that such 2 assets should cumulatively be worth of atleastRs. 500 crore. So now that single asset held by the REIT should meet such quantitative requirement. The proposal of permitting a single asset should enable owners of large value assets to explore REITs.
Allowing REITs to lend to underlying Holdco/SPV
As per the extant regulations, REITs are not allowed to lend funds. They could make investments only through debt securities. But with SEBI’s amendments it is now possible for a REIT to lend to its Holdco/SPV. This resolves one of major problems envisaged in this structure all this while. Earlier the REITs were not allowed to extend debt to the SPVs and since the SPVs are mostly in the nature of companies, the upward flow of funds from the SPV to the REIT suffered double taxation. This change would allow the REITs to extend debt to downstream SPVs which in turn can claim interest paid on such debt as expense.
Amending the definition of valuer for both REITs and InvITs:
The valuer is responsible for undertaking the periodic valuation of assets of the REITs. As per the REIT Regulations, the valuer shall not be an associate or manager or trustee and shall not have less than five years of experience in valuation of real estate. SEBI has decided in its Board Meeting to amend the definition of such valuer as well. However, it is pertinent to note that the exact changes in the definition has not be clearly disclosed.
Based on the amendments proposed by SEBI, it can be clearly stated that laws pertaining to investment in real estate sector is being liberalised to allow the overall economic development of the country.The changes approved by SEBI is yet another attempt to accelerate the growth of REIT regime.While globally both InvITs and REITs are popular instruments, India is just seeing their emergence. It is prevalent that a market for a new instrument takes its own time for development and undergoes its own dynamics and hence, SEBI is taking its own initiative accordingly, for the development of the REIT market.