UK: Private REITs

Last Updated: 25 September 2013
Article by Nick Burt

Summary and implications

Private REITs are here. Since the Finance Act 2012, it has been possible to establish a closely held "private" REIT. That is despite the fact that the government specifically rejected the concept of a private REIT during the consultation process.

Limited number of investors

A REIT is a listed property investment vehicle that has elected into a favourable tax regime. It is a condition for entry into the regime that the REIT is not closely held. However, that condition has been softened as part of a wider package of government reforms designed to encourage further REIT conversions.

It is now the case that a REIT must not be closely held within three years of conversion. And a new category of "institutional investor" is deemed to be widely held for the purpose of that test. So a limited number of institutional investors (perhaps a sole institutional investor) can now privately control a REIT.

What is a REIT?
  • Listed property investment company that has elected for REIT status.
  • REITs are tax exempt in respect of their property investment business.
  • REITs are required to distribute almost all of the underlying property investment profits to shareholders, which may be subject to withholding tax.

Listing

A private REIT must still be a listed vehicle. Depending on the type of listing shares may need to be traded as a condition of the REIT regime. However, for recognised stock exchanges there is no trading requirement.

An exchange such as the Channel Islands Stock Exchange is ideal for a private REIT. Shares are not required to be traded for regulatory purposes, and it is possible to list without the requirement for a free float. Practically speaking, this means that it is possible for a limited number of institutional investors to own the REIT and not trade shares with the wider public. The terms under which shares can be traded could be dealt with under a shareholders agreement, as would be the case for a joint venture.

Close companies

The definition of a close company is complex, but very roughly equates to a company controlled by five or fewer participators. A participator includes shareholders and loan creditors, but for the purposes of the REIT rules, now excludes institutional investors. Therefore five or fewer institutional investors could control a REIT, and it will still be widely held.

Fragmentation

Due to favourable withholding rates under double tax treaties, there are punitive rules that apply if a company holds more than 10 per cent of the shares in a REIT. As a result shareholders owning more than 10 per cent of the REIT tend to fragment their interest behind a series of nominee companies.

For a private REIT that will cause difficulties as the nominees will not be institutional investors. However, the problem can be solved by having the nominees invest through a limited partnership, which can be an institutional investor, but is not subject to the 10 per cent limitation.

Non-institutional investors

Can a private REIT exist for non-institutional investors? Possibly yes. The machinery used to fragment an institutional investor's holding into a series of holdings of less than 10 per cent could also be used for non-institutional investors.

Practically speaking non-institutional investors could invest via a limited partnership feeder vehicle.

Finance Act 2012 changes
  • Abolition of the two per cent entry charge.
  • Three-year grace period for non-close company test, and certain "institutional investors" are deemed to be widely held.
  • Relaxation of the listing requirement.
  • Cash treated as a good asset for property investment business test.
  • Technical changes to the financing costs test.

Current opportunities

Private REITs could be used in the following situations:

  • as a private joint venture vehicle;
  • to wipe out historic capital gains in a portfolio due to the abolition of the two per cent conversion charge;
  • institutional investors "seeding" REITs; and
  • certain existing funds converting to REITs.
Institutional investors
  • Authorised unit trusts (and foreign equivalents)
  • OEICs (and foreign equivalents)
  • Certain limited partnerships
  • Pensions funds
  • Insurance companies
  • Charities
  • Certain social landlords
  • Sovereign wealth funds

Tax clearance

Tax clearance can be obtained from HM Revenue & Customs that the structure will satisfy the REIT conditions, and that the anti-avoidance conditions in the REIT regime will not apply. The clearance is non-statutory and is available as the law was only changed last year, and there is currently material uncertainty.

A REIT can be kicked out of the regime if used for avoidance purposes. So pre-transaction clearance for a private REIT is advisable.

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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