Widely read:
Real estate investment trust (REIT) , when launched, was seen as a godsend for small investors. Before REITs, investing in commercial properties required big bucks. However, the advent of REITs lowered the entry barrier. It promised rental yields from these commercial properties at a fraction of the cost in the form of dividends.
Although REIT regulations were enacted in 2014, India's first REIT came into being only five years later. Now that they are in their fifth year of existence, we decided to put the heat on REITs to assess their investment case.
The good
Structurally, REITs have a firm footing. Even though India's real estate is often dogged by cash crunch and project delays, REITs overcome these issues by having to put at least 80 per cent of investors' money into completed and income-generating commercial projects. It ensures investors expecting a steady stream of income are not left stranded. Furthermore, they must distribute at least 90 per cent of their post-tax earnings as dividends to shareholders. But note that the REIT decides when to distribute the dividends and, therefore, can be irregular.
The bad
REITs and mutual funds have a few common genes. They collect money from investors and buy income-producing assets. But unlike the stocks owned by equity-oriented
mutual funds
, the properties bought by REITs are not tradable as easily as stocks. So, they may not be as liquid.
That said, REITs are also required to get their property portfolio valued from time to time and calculate their net asset value (NAV) . Thus, there is also an element of capital appreciation that can be tracked. If the value of the underlying assets (properties) increase, NAV increases.
The ugly
The total market cap of REITs is currently close to Rs 80,000 crore. This is the November 2023 data. On the face of it, REIT's total worth is substantial. But a closer inspection reveals that their trading volume is much lower than even an average small-cap stock.
In plain English, although the REIT industry is pretty large, they are not bought and sold very frequently. As such, there is a risk of investors getting stuck with a dud investment. Moreover, any big trade can make REITs highly volatile, a development that can muddy their low-risk investment image.
Their performance
The fact that REITs invest in commercial properties gives them a leg up, as they typically generate 2-3 times higher rental yield than residential homes. Additionally, REITs are currently focusing on Tier-1 cities, so the property prices can appreciate faster (read: higher rental income for you). As a result, they have offered a dividend yield of 6-8 per cent in the last 12 months.
How have REITs performed?
| Embassy Office Parks REIT | Mindspace Business Parks REIT | Brookfield India Real Estate Trust REIT | |
|---|---|---|---|
| Listing date | Apr 1, 2019 | Aug 7, 2020 | Feb 16, 2021 |
| Total return | 7.2% | 7.3% | 3.2% |
| Income distribution | 7% | 5.7% | 7.1% |
| Price appreciation | 0.2% | 1.6% | -3.9% |
| One-year dividend yield (Dec 22-Dec 23) | 6.9% | 6% | 7.6% |
| Annual dividend frequency | 4 | 4 | 4 |
| Note: There are four REITs in the country, the fourth - Nexus Select Trust REIT - was listed a few months back in May 2023 and does not have a dividend history. | |||
Taxation
The tax structure is a bit complex. But if we have to simplify it, the dividend amount is tax-free for the investor right now, as all the three REITs mentioned above have invested in SPVs (special purpose vehicles) that have not opted for the concessional tax rate. Having said that, if these SPVs would have opted for the concessional tax rate, then the income would have been taxable at the slab rate.
And if any distributed income is taxable in the hands of the investor, a withholding tax of 10 per cent is charged by the REIT. Investors can get it adjusted at the time of filing returns.
Tax liability on returns generated by REITs
| Nature of income | Tax liability for unitholders |
|---|---|
| Rental income from property directly owned by REIT | As per applicable slab rate |
| Interest earned by REIT on loan given to SPV | As per applicable slab rate |
| Repayment of loan given to SPV | Amount received as loan repayment to be reduced from cost of acquisitions of units at time of sale |
| Dividends for rental income earned by SPV | If the SPV has not opted for the concessionaltax regime on corporate tax (u/s 115BAA): Tax-exempt If the SPV has opted for the concessional tax regime on corporate tax (u/s 115BAA): Taxable at the applicable slab rate |
| Capital gain on selling of REIT's units by unitholder | If units held for more than 3 years: Long-term capital gains tax @10%. However, gains up to lakh in a financial year are tax-exempt If units held for less than 3 years: Short-term capital gains tax @ 15% |
| Other income | Tax-exempt |
What you should do
-
If you are a regular income seeker and want to invest in real estate for the same, you can allocate a small portion of your portfolio - 8 to 10 per cent - to REITs.
-
If you do invest, do the due diligence by evaluating the REIT's occupancy rate, tenant diversification, lease period, quality of assets and financials.
- For the rest, we'd suggest you look at other options, as REITs are too young, volatile and illiquid (not easy to buy and sell). There are a lot of unknowns at the moment.
Also watch: Mutual funds vs real estate: Which is better?
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