India’s first Infrastructure Investment Trusts (InViTs) was listed in 2017. The country’s first Real Estate Investment Trust, Embassy REIT, made its debut in April this year. While India’s REIT market has growth potential, it “still has to ride the wave of teaching people what REITs are,” says Sigrid Zialcita, APREA’s newly appointed CEO.
In this interview, she also elaborates on the tax implications for investors and the relative pros and cons of an India-focused REIT listing in India versus offshore.
There have been some Infrastructure Investment Trusts (InvITs) listed in India and now the first REIT. How have the InvITs performed and how do you see the REIT and InvIT markets developing over time?
The Embassy REIT has had a great start, and it has opened up an avenue for the investors to gain a share of the real estate sector. By selling stabilised assets to REITs, developers can unlock capital that can be more effectively deployed in new development projects. Embassy’s portfolio is on a strong foundation with more than 95% occupancy and about half the rentals accruing from Fortune 500 firms. REITs are expected to provide a low double-digit return over a period of time, which will include a dividend yield of 6-8% that is trending up besides capital appreciation, thereby leading to a 12-13 % return. With the possible retail participation, Indian REITs present a golden opportunity for investors as an alternate investment option and a share of real estate without owning it, thereby getting regular income and capital appreciation over a medium to long-term investment period. India still has to ride the wave of teaching people what REITs are, in contrast to the U.S., where investor education has gone straight into what REITs can do for investors’ investment portfolio.
InvITs have been underperforming since their listing. However, distributions have so far been on track. The first InvIT was listed in 2017: IRB InvIT Fund, which owns toll roads, debuted and then India Grid Trust InvIT, which owns power transmission projects.
InviTs have not been doing well due to a lack of understanding.
Generally, InvITs suffer from a perception problem. Since the fund was listed as equity and benchmarked to equity indices, investors expected a higher return but the final return should be judged in the form of dividends, interest, and buybacks rather than on current price. Extensive investor education is important so that they attract the right investors.
InvITs have requested for approval to do buybacks as they are trading at deep discounts to their intrinsic values and are waiting for approval from SEBI (Stock Exchange and Exchange Board of India).
It is definitely for now anyone’s guess to say how India’s REIT market might develop although the potential remains immense. For one, both asset classes will have to broaden its appeal and access to retail investors, which means generating a good enough spread on the risk-free rate in India. Both asset classes can be seen to be highly regulated, low risk products that have their place in any investment portfolio. The central premise of these asset classes, beside boosting infrastructure financing and real estate liquidity, is that they remain products every economy needs to foster growth of deeper and healthier capital markets. The government and the regulators must do their utmost to ensure the success of InvITs and REITs, given the long-term potential of these instruments as alternative sources of funding. And we, at APREA, remain committed to work with all stakeholders in India to promote the growth of REITs.
What is the typical structure of REITs in India, such as are they internally or externally managed, and what are the tax requirements?
In India, since real estate assets are generally held in SPVs (Special Purpose Vehicles), the REIT structure would be the trust holding the SPV shares. Interest distributed by the SPVs to the REITs and the REITs to investors is subject to 5% withholding tax in the hands of foreign investors. Dividend is exempt from DDT (dividend distribution tax).
Current REIT regulations in India provide for external management of REITs. REIT regulations also provide for a strong governance and reporting structure. One of the hallmarks of a good REIT is having a strong “sponsor” company that can continue to feed the REIT with a pipeline of cashflow-generating properties in the years to come.
Indian REITs are also mandated to distribute not less than 90% of its income—at least 80% of the value of REIT assets shall be in completed and revenue generating properties. The threshold is lower at 75% for Singapore-REITs (S-REITs), while a number of S-REITs also voluntarily commits to distributing 100% of its income.
What taxes do local and foreign investors into Indian REITs need to be mindful of?
Income received by investors from REITs could be in the form of interest, dividends or gains on sale of REIT units. Interest and dividend income received from SPVs by the REITs would be passed through, that is, such income would not be taxable in the hands of REITs. The taxes on the different streams of income for domestic and foreign investors are discussed below:
a) Interest income
Distribution of interest by REIT to its investors should be subject to withholding tax at the rate of 5% (plus surcharge and cess) for foreign investors and at the rate of 10% for domestic investors. While there is no further taxation of such interest income for foreign investors, domestic investors should be required to pay additional tax on such interest income at the tax rate applicable to them. Credit for such taxes withheld should be available for both domestic as well as foreign investors.
b) Dividend income
Dividend paid by SPV/ Holding Company (in a two-tier structure) is not subject to DDT when paid to a REIT. However, dividend paid by SPV to Holding Company should be subject to DDT at the rate of 20.56% on the dividend distributed. Further, there should be no DDT on distribution of dividends by a REIT to its investors.
Dividend received by investors from a REIT should be exempt on pass through basis.
c) Capital Gains
- There should be no income-tax implications on swap of shares in SPV for units in the REIT. At the time of eventual sale of such REIT units, period of holding and cost of acquisition of shares in SPV should be available for computing capital gains on sale of the REIT units
- Gains arising on sale of REIT units should be liable to tax as under:
i) Long-term capital gains exceeding INR 100,000 on sale of units held for more than 36 months – 10% (subject to payment of securities transaction tax)
ii) Short-term capital gains on sale of units held for up to 36 months – 15% (subject to payment of securities transaction tax)
The route for a foreign investor to invest into India isn’t so straightforward. For example, I can trade most ASEAN markets and Hong Kong, Japan, Australia, China, and the U.S. through a general brokerage in Singapore, but not India. Are you able to share the most straightforward method for a foreign investor to trade India REITs and InvITs?
All Foreign Portfolio Investors (FPIs) need to be registered and traded through registered brokers in India.
Aside from India, there have been offshore listings of Indian assets such as Singapore’s Ascendas India Trust. How do you view the relative pros and cons of a listing in India and offshore listing – including cost of capital, tax structuring, etcetera?
It will be more straightforward to structure an India REIT listing onshore rather than offshore, as there is an additional layer of regulations to negotiate for holding property in a foreign jurisdiction for tax efficiency.
For example, tax is paid in India prior to repatriation to Singapore for distribution. Further, there are currency risks since income is generated in India and distributed by a Trust in that country’s currency. Indian listing also gives an opportunity for local retail investors to participate.
Being an emerging market, office real estate in India has witnessed growth considerably higher than the mature / developed REIT markets. Unlike the other developed REIT markets including Singapore, REIT returns in India have a significant contribution from growth. Internationally, REIT’s distribution yields have been 100-200 basis points over the treasury yields with little growth. In India, however, Total Shareholder Return shall be a healthy combination of distribution yield and growth. Also, under-renting of many assets provides these portfolios with higher growth potential. Hence, on a Total Return Basis, Indian REITs offer a robust return equal to or higher than the global REIT issuances. Further, there are no India-focused REITs in Singapore, as all are structured as business trusts: Religare Health Trust (RHT) and Ascendas India Trust. Although most business trusts listed here have opted to voluntarily introduce thresholds, business trusts are not subjected to any limit on development activities.
On governance also, REIT regulations in India provide for a strong governance framework on lines similar to International REIT regulations. REIT Regulations in India mirror Singapore REIT regulations.