What are REITs?
With the rise in inflation and rapid increase in the standard of living, investing money is necessary. When it comes to investing, there are primarily 4 asset classes that an investor can choose from based on their goals and risk taking ability. They are:-
1. Fixed Income Instruments:- Fixed deposits, bonds
2. Equity:- Shares, Mutual funds
3. Real Estate:- Commercial, residential land.
4. Commodities:- Gold, oil
While one should go through all of them in detail to understand what they offer, we will only be focussing on Real Estate.
Out of all the asset classes, fixed income instruments and equity are the most preferred options to invest in. Some of the reasons why investors are less inclined towards investing in real estate are:-
1. Large ticket size:- The capital needed to invest in real estate is a lot more than the capital required for investing in the stock market. One can invest in as low as 1 share but the capital to invest in Real Estate is always more.
2. Illiquid / low liquidity:- Another major downside of investing in Real Estate is that it's not as liquid as equity. The investor cannot cut losses and sell the asset like he/she can sell their stocks in the exchange.
3. Legalities and expertise - The investor has to be cognizant of all legalities before buying a property to ensure that he/she will not face any problem in the future.
4. Income generation:- There are two income sources from real estate investments, namely – Rental income, and Capital appreciation of the investment amount, but both of them do not provide financial security. Difficulty of finding tenants, getting the right rent and legal procedure is also a big problem.
These are some of the reasons why investors refrain from reaping the benefits of Real Estate. With the arrival of Real estate Investment trusts, some, if not most of these problems can be solved.
What are Real Estate Investment Trusts?
Similar to mutual funds, real estate investment trusts are funds that pool money from investors and acquire real estate properties that have the potential to generate regular income. This allows the investor to earn regular dividends from real estate without having to actually buy or operate the whole property. They primarily invest in commercial properties that have a lot of potential for income generation for example Grade A offices for lease, malls etc. Many REITs are publicly traded on major securities exchanges, and investors can buy and sell them like stocks throughout the trading session. These REITs typically trade under substantial volume and are considered very liquid instruments.
Why should one invest in REIT?
Smaller capital outlay :- One of the biggest advantages that REITs have to offer is that an investor can invest in real estate and enjoy its returns without having to spend a large amount of capital. The money invested by everyone gets pooled, and invested in commercial projects that generate regular income. Each investor will earn in accordance to the units they received, in exchange of their money. Buying a commercial property is very difficult for a retail investor, but REITs help in distributing the ownership through a fund, and earning returns from it.
Investment expertise :- Investors get access to expertise from the fund manager and their team, who are experts in this industry and can take a better and more informed decision than a retail investor. The investor only needs to research and select a good REIT, which is comparatively easier than doing research on properties, understanding their legal affairs, and investing in them.
Diversification:- The fund managers diversify risks by having a portfolio of multiple and diverse assets of different industries. This is next to impossible if an investor buys a property on their own.
Liquidity:- Like I mentioned before, REITs are publicly traded on major securities exchanges, and investors can buy and sell them like stocks throughout the trading session. These REITs typically trade under substantial volume which makes them liquid. Thus, it is easier to acquire and sell when compared to buying a property.
Income generation :- Investors get a regular dividend based income. It produces a steady stream of income through a variety of market conditions. They have provided long-term total returns similar to those of other stocks.
Real Estate Funds
A real estate fund is a mutual fund particularly focussed on Real Estate. It predominantly invests in the equity of real estate related projects, public real estate companies etc.
Difference between REITs and Real Estate Funds
Although they are cut from the same cloth, REITs and Real Estate funds have some differences. They are:-
1. Investment - REITs directly invest in real estate properties and own, operate and give it for lease to generate income. Real estate mutual funds invest in public real estate companies and REITs.
2. Income - 90% of REITs taxable income is paid out as dividends. Dividends are the only source of income. In real estate funds, Investors earn through capital appreciation of their money, or increase in the value of their units.
3. Where to buy - REITs trade on exchanges like stocks do. They are highly liquid and their prices fluctuate through the trading session. Real estate mutual funds aren’t listed on the stock exchange. They can be bought from the company that created it or through an online brokerage company.
REIT in India
Currently, Indian investors have access to 3 REIT companies only, which are:-
1. Brookfield India
2. Embassy Office Parks
3. MindspaceBusiness Parks
Some more information
1. Capital Markets Regulator SEBI recently announced that REITs have to invest 80% of their portfolio into pre-leased assets.
2. With the reduction in the threat posed by the pandemic and increase in “work from office”, net absorption of commercial spaces has significantly risen. Analysts remain confident about the potential for commercial realty given that India still has a lot of affordable commercial realty markets in the world.
3. Increased leasing, co-working spaces are an optimistic sign for commercial realty in India
4. The minimum amount a retail investor can put in a REIT is Rs. 50,000 during the IPO or equivalent to the value of 200 units when buying on the exchange.
5. The trust deducts TDS on any rental dividend or interest income in the hands of the investor at 10%. Meanwhile capital gains arising from sale of REIT units are treated like equity when it comes to tax rates.