India: Framework Of REITs In India

The concept of Real Estate Investment Trusts Regulations (REITs) is not new to India. REITs invest primarily in completed, revenue generating real estate assets and distribute major part of the earning among their investors. Moreover, most of such investments are in completed properties which provide regular income to the investors from the rentals received from such properties.

The Securities & Exchange Board of India (SEBI) formally introduced the REITs in 2007 as draft REIT Regulations. Thereafter, SEBI released a revised set of draft REIT Regulations on October 10, 2013 through the consultative paper placed on SEBI website along with the draft REIT Regulations, 2013. The consultative paper and draft REIT Regulations were placed on SEBI website for public comments on October 10, 2013 till October 31, 2013; and comments were received from 65 entities.

Based on the comments received on the draft regulations and the Budget announcement of 2014-15, appropriate changes were made to the draft Regulations of 2013 and pursuant thereto SEBI issued a memorandum proposing the draft SEBI (Real Estate Investment Trusts) Regulations, 2014 (hereinafter referred as "Draft REIT Regulations"), and sought consideration and approval of the SEBI for the same.

The SEBI vide its meeting and decision dated 10.08.2014 bearing reference no. PR No. 89/2014 approved the SEBI (Real Estate Investment Trusts) Regulations, 2014.

Vide notification No. LAD-NRO/GN/2014-15/11/1576 dated September 26, 2014 and in exercise of the powers conferred by section 30 read with section 11 and 12 of the Securities and Exchange Board of India Act, 1992 (15 of 1992), the SEBI finally notified the SEBI (Real Estate Investment Trusts) Regulations, 2014 ("REIT Regulations")1, laying down a framework for REITs in India and registration and regulation thereof.

Salient features of the REIT Regulations

The salient features of the REIT Regulations, as notified by the SEBI, include the following:

1. REITs shall be registered with SEBI upon fulfilling following criteria:

(i) A REIT has to be structured as a trust in accordance with the provisions of the Indian Trusts Act, 1882 and the trust deed shall be duly registered as per the provisions of Registration Act, 1908;

(ii) It shall have parties such as trustee, sponsor(s) , re-designated sponsor(s) and manager, and all such persons should be separate entities;

(iii) The Trust Deed shall have its main objective as undertaking activity of REIT in accordance with the Regulations;

(iv) The trustee of a REIT shall be registered with SEBI under SEBI (Debenture Trustees) Regulations, 1993, and shall not be an associate of the sponsor / manager.

2. Regulation 4 of the REITs Regulations provides from the qualification criteria in relation to the above mentioned office bearers of a REIT. Regulation 4 (2) (d) with regard to a sponsor(s) of a REIT specifies that:

(i) there are not more than three sponsors each holding or proposing to hold not less than five per cent. of the number of units of the REIT on post-initial offer basis;

(ii) the sponsor(s), on a collective basis, have a net worth of not less than INR one hundred crore, provided that each sponsor has a net worth of not less than INR twenty crore; and

(iii) the sponsor or its associate(s) has not less than five years experience in development of real estate or fund management in the real estate industry, provided that where the sponsor is a developer, at least two projects of the sponsor have been completed;

3. Further Regulation 4 (2) (e) enumerates eligibility criteria with regard to the manager as:

(i) the manager has a net worth of not less than INR ten crore if the manager is a body corporate or a company or net tangible assets of value not less than INR ten crore in case the manager is a LLP;

(ii) the manager or its associate has not less than five years experience in fund management or advisory services or property management in the real estate industry or in development of real estate;

(iii) the manager has not less than two key personnel who each have not less than five years experience in fund management or advisory services or property management in the real estate industry or in development of real estate;

(iv) the manager has not less than half, of its directors in the case of a company or of members of the governing Board in case of an LLP, as independent and not directors or members of the governing Board of another REIT; and

(v) the manager has entered into an investment management agreement with the trustee which provides for the responsibilities of the manager in accordance with regulation 10;

4. The eligibility criteria with regard to a trustee are provided under Regulation 4 (2) (f ) as under:

(i) the trustee is registered with the Board under SEBI(Debenture Trustees) Regulations, 1993 and is not an associate of the sponsor(s) or manager; and

(ii) the trustee has such wherewithal with respect to infrastructure, personnel, etc. to the satisfaction of the Board and in accordance with circulars or guidelines as may be specified by the Board;

5. As per the REITs Regulations:

(i) a "real estate" or "property" means land and any permanently attached improvements to it, whether leasehold or freehold and includes buildings, sheds, garages, fences, fittings, fixtures, warehouses, car parks, etc. and any other assets incidental to the ownership of real estate, except mortgage. However, this definition does not include any asset falling under the purview of 'infrastructure' as defined vide Notification of Ministry of Finance dated October 07, 2013 including any amendments or additions made thereof;3

(ii) "real estate assets" means properties owned by REIT whether directly or through a special purpose vehicle;4 and

(iii) "rent generating property" means property which has been leased or rented out in accordance with an agreement entered into for the purpose;5

6. As per regulation 18(1), a REIT can invest only in SPVs or properties or securities or TDR in India in accordance with the REIT Regulations and in accordance with the investment strategy as detailed in the offer document as may be amended subsequently. However, the REIT shall not invest in vacant land or agricultural land or mortgages other than mortgage backed securities, provided that this shall not apply to any land which is contiguous and extension of an existing project being implemented in stages6. In such SPVs a REIT shall hold or proposes to hold controlling interest and not less than 50% of the equity share capital or interest;

7. Further, such SPVs shall hold not less than 80% of its assets directly in properties and shall not invest in other SPVs;

8. Upon registration, the REIT shall raise funds through an initial offer. Subsequent raising of funds may be through follow-on offer, rights issue, qualified institutional placement, etc. The minimum subscription size for units of REIT shall be INR 2 Lakhs. The units offered to the public in initial offer shall not be less than 25% of the number of units of the REIT on post-issue basis;

9. Units of REITs shall be mandatorily listed on a recognized Stock Exchange and REIT shall make continuous disclosures in terms of the listing agreement. Further, the trading lot for such units shall be INR 1 Lakh;

10. For the purpose of making an initial offer, the value of the assets owned/proposed to be owned by REIT shall be of value not less than INR 500 Crore7. Moreover, the minimum issue size for initial offer shall be INR 250 Crore;

11. The Trustee shall generally have an overseeing role in the activity of the REIT. The manager shall assume operational responsibilities pertaining to the REIT. Responsibilities of the parties involved are enumerated in the Regulations;

12. A REIT may have multiple sponsors, however, subject to a maximum of 3. Further, each sponsor shall hold at least 5% of the units of the REIT. Such sponsors shall collectively hold not less than 25% of the units of the REIT for a period of not less than 3 years from the date of listing. After 3 years, the sponsors, collectively, shall hold minimum 15% of the units of REIT, throughout the life of the REIT;

13. Not less than 80% of value of the REIT assets shall be invested in completed and revenue generating properties;

14. Not more than 20% of the value of REIT assets shall be invested in following:

(i) properties in which not more than ten per cent of value of the REIT assets shall be invested, which are:

a) under-construction properties which shall be held by the REIT for not less than three years after completion;

b) under-construction properties which are a part of the existing income generating properties owned by the REIT which shall be held by the REIT for not less than three years after completion;

c) completed and not rent generating properties which shall be held by the REIT for not less than three years from date of purchase;

(ii) mortgage backed securities,

(iii) listed / unlisted debt of companies / body corporates in real estate sector,

(iv) equity shares of companies listed on a recognized stock exchange in India which derive not less than 75% of their operating income from Real Estate activity,

(v) government securities,

(vi) unutilized FSI of a project where it has already made investment,

(vii) TDR acquired for the purpose of utilization with respect to a project where it has already made investment, and

(viii) money market instruments or Cash equivalents. However, investments in developmental properties shall be restricted to 10% of the value of the REIT assets;

15. A REIT shall invest in at least two projects with not more than 60% of value of assets invested in one project;

16. REIT shall distribute not less than 90% of the net distributable cash flows, subject to applicable laws, to its investors, atleast on a half yearly basis;

17. REIT, through a valuer8, shall undertake full valuation on a yearly basis and updation of the same on a half yearly basis and declare Net Asset Value within 15 days from the date of such valuation/updation;

18. The borrowings and deferred payments of the REIT at a consolidated level shall not exceed 49% of the value of the REIT assets. In case such borrowings/ deferred payments exceed 25%, approval from unit holders and credit rating shall be required.

Key Changes

The notified REITs Regulations, 2014 differ from the draft REITs Regulations, 2013 on the below mentioned points:

1. Under the draft guidelines, apart from the three namely, viz. trustee, sponsor and Manager, appointment of a Principal Valuer was also provided. However, the approved guidelines has dispensed with the need for appointment of the principal valuer.

2. Restriction on making an investment in at least 2 projects has been introduced wherein it has been allowed to make a maximum investment of 60% for each project.

3. The requirement with respect to independent directors has been dispensed with.

4. The limit on value of assets has been reduced thereby allowing more sponsors to consider setting up REITs.

5. Making an investment in the body corporate engaged in real estate sector have been permitted.

Conclusion

The REITs Regulations, as notified, are definitely a welcome step which may attract foreign and domestic investments and will boost the progress of the real estate sector since the money collected would be majorly invested in commercial properties which are completed and generate income

Moreover, the new norms would enable the listing and trading of REITs on the stock exchange like any other security and would also lend a hand in creating a platform for raising of funds by real estate companies.

Footnotes

1. h t t p : / /w w w. s e b i . g o v . i n / cms / s e b i _ d a t a / attachdocs/1411722678653.pdf

3. Regulation 2 (zt)

4. Regulation 2 (zj)

5. Regulation 2 (zp)

6. Regulation 18 (2)

7. Explanation to Regulation 14 (2) (b) - Such value shall mean the value of the specific portion of the holding of REIT in the underlying assets or SPVs.

8. Regulation 2 (zz) - "valuer" means any person who is a "registered valuer" under section 247 of the Companies Act, 2013 and who has been appointed by the manager to undertake valuation of the REIT assets:

Provided that till such date on which section 247 of the Companies Act, 2013 comes into force, valuer shall mean an independent merchant banker registered with the Board or an independent chartered accountant in practice having a minimum experience of ten years;

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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