understanding of reit structure and impact on real estate industry
TRANSCRIPT
Understanding of REIT Structure and Impact on Real Estate Industry
Manan Choksi
Regional Director
RE/MAX Gujarat
RE/MAX Gujarat
Agenda:
• Background
• Structures of REITs
• Salient Features of SEBI Regulations
• Regulatory Framework
• Taxation
• REIT
• Sponsors
• Unit Holders
• Responsibilities of various parties to the REIT
• How this will help real estate industry?
• Benefits for small real estate players
Background
WHY REIT?
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Background
Source: European Public Real Estate Association (EPRA) - Global REIT Survey 2013
REITs started in the US in 1960. Over the past 50 years, the US REITs hasattracted a market capitalisation of over USD600 billion and has been adopted in several parts of the world. As of 30 June 2014, there were 456 stock exchange-listed in the FTSE EPRA/NAREIT Global Real Estate Index in 47 countries around the globe. Of the USD1.2 trillion in equity marketcapitalisation represented in the Developed Markets index, 78 percent came from REITs.
Evolution of REITs
Global evolution of REITs
1970s
•Australia (1970)1960s
•United
States(1960)
1990s
•Canada
(1994)
•Brazil (1995)
2000s
•Japan (2000)
•Singapore (2002)
•France (2003)
•Hong Kong (2003)
•Malaysia (2006)
•UK (2007)
2010s
•Mexico (2011)
•Pakistan
(2013)
•South Africa
(2013)
Legislative
framework in place
•China
•India
•Spain
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S.NO Country No. of REITs
Market Size(USD billion)
Percentage of global REITs Market
REITs performance as per S&P Dow Jones (Annual return in Percent)
5years 10 years
1 United States of America
163 621 57.68 23.80 9.58
2 Australia 52 86 8.33 18.11 5.10
3 France 37 68 6.33 20.74 16.46
4 Japan 41 64 5.98 14.84 7.78
5 United Kingdom 23 49 4.55 18.52 N.A.
6 Singapore 32 45 4.23 22.04 15.09
Evolution of REITs in India
In 2007 SEBI formally introduced the draft REITs regulations for public comments.
Because of downturn in the market during that period, no further development took place in theREITs regulation, until October 2013 whena second draft of the regulations was issued for public comments by SEBI. After taking industry
inputs,amendments to regulations were made and the draft was approved allowing setting up and listingof REITs. Post the clarifications provided in the 2014 budget, a final draft was introduced by SEBI inAugust 2014.
REITs advantages to different stakeholders
REITs advantages to different stakeholders
1. Improves liquidity in the sector
1. Help improve government's revenue
2. Capital raising opportunity for mid-tier
2. Funding through REITs could help
developers especially for small
facilitate other key real estate policy
companies with lower/minimal credit
implementation like targeting 100 smart
worthiness cities
Developers Government
REITs'advantages
Institutionalinvestors
1. Provides an exit opportunity for existingPE players, developers and financial
2. Act as an alternative financingopportunity with increase depth of Indianreal estate capital markets
3. Help attract long term investors such aspension and insurance funds looking formoderate risk v/s return ratio
Retailinvestors
1. Reduces ticket size for investing in realestate sector
2. Transparent investment alternative in realestate sector with experiencedprofessional and independent oversight
3. Easy entry and exit in the real estatesector
1. Improves liquidity in the sector 1. Help improve government's revenue2. Capital raising opportunity for mid-tier 2. Funding through REITs could help
developers especially for small facilitate other key real estate policycompanies with lower/minimal credit implementation like targeting 100 smartworthiness cities
DevelopersGovernment
REITs’advantages
Institutionalinvestors
Retail investors
1. Reduces ticket size for investing in realestate sector
2. Transparent investment alternative in realestate sector with experiencedprofessional and independent oversight
3. Easy entry and exit in the real estatesector
1. Provides an exit opportunity for existingPE players, developers and financialinvestors
2. Act as an alternative financingopportunity with increase depth of Indianreal estate capital markets
3. Help attract long term investors such aspension and insurance funds looking formoderate risk v/s return ratio
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Background
9
1996
19992002
20082008
20142013
SEBI (Mutual Funds) Regulations, 1996,
Chapter VIA
Satwalekar Committee
Sub-Committee set up by AMFI
Draft Securities & Exchange Board of India (Real Estate Investment
Trusts) Regulations, 2008
SEBI Notification of real estate mutual fund schemes [REMFs]
Draft Securities & Exchange Board of India (Real Estate Investment
Trusts) Regulations, 2013
Securities & Exchange Board of India (Real Estate
Investment Trusts) Regulations, 2014
And Finance Act 2014
Structures of REIT
REIT
Institutional Funds / HNI
InvestorsSponsors
Unit Holders
PropertiesProperty
Management Company
REIT Management
CompanyTrustee
Maximum 75% Minimum 25%
Investments in REIT Units
Acts on behalf of Unit Holders
Trustee Fees
Fees
Services
Management Services
Management Fees
REIT Mechanism
Assets
Liabilities
Capital
Invested Assets (Real Estate, etc.)
Tenant
Financial Institution (Lender)
Unit holders
Broker
Stock Exchange
Unit holders
Real Estate Investment Advisor [Asset Manager]
Investment
Rent
Lease Contract
Borrowing
Interest Repayment
Investment
Dividend
Execution
Asset Management
REIT Structure with Borrowing
REIT
Indian Asset Company [SPV]
Unit Holders
Indian Real Estate Assets
Indian Promoters
Trust Management Co.
(the manager)
Trust Services Co. (the trustee)
Services Company (Property Manager)
Management Services Co.
(Individual Property Manager)
Ownership of Units Distributions
Management Fees
Management Services
Trustee ‘s Fees
Acts on behalf of unit holders
Ownership > 50%Dividends and/or interest
Nominates Individual Property Manager
Ownership
Rental Income
REIT Structure with SPV
Salient Features of SEBI Regulations
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Salient Features
In order to encourage set of REITs in India, SEBI has issued SEBI(Real Estate Investment Trusts) Regulations, 2014. Pursuant to theregulations, the following are the salient features of REIT:
REITs shall be set up as a trust and registered with SEBI. It shallhave parties such as Trustee, Sponsor(s) and Manager.
The trustee of a REIT shall be a SEBI registered debenture trusteewho is not an associate of the Sponsor/manager.
REIT shall invest in commercial real estate assets, either directlyor through SPVs. In such SPVs, REIT shall hold or proposes to holdcontrolling interest and not less than 50% of the equity sharecapital or interest. Further, such SPVs shall hold not less than 80%of its assets directly in properties and shall not invest in otherSPVs.
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Salient Features
Once registered, the REIT shall raise funds through an initial offer.
Subsequent raising of funds may be through follow-on offer, rightsissue, qualified institutional placement, etc.
The minimum subscription size for units of REIT shall be Rs 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.
Units of REITs shall be mandatorily listed on a recognized StockExchange and REIT shall make continuous disclosures in terms of thelisting agreement. Trading lot for such units shall be Rs 1 Lakh.
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Salient Features
For coming out with an initial offer, the value of the assetsowned/proposed to be owned by REIT shall be of value not less than Rs 500crore. Further, minimum issue size for initial offer shall be Rs 125 crore.
A REIT may have multiple sponsors, not more than 3, subject to eachholding at least 5% of the units of the REIT. Such sponsors shall collectivelyhold not less than 25% of the units of the REIT for a period of not less than3 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 theREIT.
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Salient Features
Not less than 80% of the value of the REIT assets shall be in completed andrevenue generating properties.
Not more than 20% of the value of REIT assets shall be invested infollowing:
i. developmental properties,
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 inIndia which derive not less than 75% of their operating income fromReal Estate activity,
v. government securities,
vi. money market instruments or Cash equivalents.
However investments in developmental properties shall be restricted to10% of the value of the REIT assets. A REIT shall invest in at least 2 projects with not more than 60% of value
of assets invested in one project. Detailed investment conditions areprovided in the Regulations.
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Salient Features
REIT shall distribute not less than 90% of the net distributable cashflows, subject to applicable laws, to its investors, at least on a halfyearly basis.
REIT, through a valuer, shall undertake full valuation on a yearly basisand updation of the same on a half yearly basis and declare NAV within15 days from the date of such valuation/updation.
The borrowings and deferred payments of the REIT at a consolidatedlevel shall not exceed 49% of the value of the REIT assets. In case suchborrowings/ deferred payments exceed 25%, approval from unitholders and credit rating shall be required.
Detailed provisions for related party transactions. valuation of assets,disclosure requirements, rights of unit holders, etc. are provided in theRegulations. However, for any issue requiring unit holders’ approval,voting by a person who is a related party in such transaction as well asits associates shall not be considered.
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Regulatory framework
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Regulatory framework
Salient features of the Regulatory Framework are as under:
Structure of the REIT
The REIT shall be set up as a Trust under the provisions of theIndian Trusts Act, 1882. REITs shall not launch any schemes.
The REIT shall have parties such as trustee (registered with SEBI),sponsor, manager and principal valuer.
Registration of REIT
The Trust shall initially apply for registration with SEBI as a REIT inthe specified format. It shall fulfill eligibility criteria as specified inthe draft Regulations.
SEBI, on being satisfied that the eligibility conditions are satisfied,shall grant the REIT certificate of registration.
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Regulatory Framework
Offer of units to the public and listing of units After registration, the REIT shall raise funds initially through an
initial offer and once listed, may subsequently raise funds throughfollow-on offers.
Listing of units shall be mandatory for all REITs. The units of theREIT shall continue to be listed on the exchange unless delistedunder the Regulations. Provisions for delisting have also beenspecified in the Regulations.
For coming out with initial offer, it has been specified that the sizeof the assets under the REIT shall not be less than Rs. 500 crorewhich is expected to ensure that initially only large assets andestablished players enter the market.
Further, minimum initial offer size of Rs. 125 crore and minimumpublic float of 25% is specified to ensure adequate publicparticipation and float in the units.
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Offer of units to the public and listing of units [contd.]
General procedure for initial/follow-on offer, filing of offerdocument/follow-on offer document, allotment and listing of unitshas been specified in the Regulations. Detailed disclosures requiredin the offer document/follow-on offer document have also beenspecified in the Regulations.
The REIT may raise funds from any investors, resident or foreign.However, initially, till the market develops, it is proposed that theunits of the REITs may be offered only to HNIs/institutions andtherefore, it is proposed that the minimum subscription size shallbe Rs. 2 lakhs and the unit size shall be Rs. 1 lakh.
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Regulatory Framework
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Regulatory Framework
Investment Conditions and Dividend Policy In line with the nature of the REIT to invest primarily in completed revenue generating
properties, it has been mandated that at least 90% of the value of the REIT assets shall be incompleted revenue generating properties. In order to provide flexibility, it has been allowedto invest the remaining 10% in other assets as specified in the proposed Regulations.
To ensure regular income to the investors, it has been mandated to distribute at least 90% ofthe net distributable income after tax of the REIT to the investors.
REITs have been allowed to invest in the properties directly or through special purposevehicles, wherein such special purpose vehicles (SPV) hold not less than 90% of their assetsdirectly in such properties. However, in such cases, it has been mandated that REIT shallhave control over the SPV so that the interest of the investors of the REIT are notjeopardized.
The REIT shall not invest in vacant land or agricultural land or mortgages other thanmortgage backed securities. Further, the REIT shall only invest in assets based in India.
Investment upto100% of the corpus of the REIT has been permitted in one project subject tothe condition that minimum size of such asset is not less than Rs. 1000 crores.
Other detailed investment conditions are provided in the proposed Regulations.
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Regulatory Framework
Related Party Transactions [RPT]: All related party transactions shall be on an arms-length basis, in the best interest
of the investors, consistent with the strategy & investment objectives of the REITand shall be disclosed to the exchanges and investors periodically in accordancewith the listing agreement and the proposed Regulations.
Stringent conditions have been imposed on related party transactions includingdetailed disclosures, valuation requirements, approval from majority of investors,related party abstaining from voting, restrictions on leasing of assets to relatedparties, requirement of fairness opinion for lease, etc.
For any related party transactions for acquisitions/sale of properties, valuationreports from 2 independent valuers shall be obtained and the transaction forpurchase/sale of such properties shall be at a price not greater / less than averageof the two independent valuations.
Investors' approval is required for all the related party transactions wherein thevalue is above a threshold as provided in the proposed regulations.
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Borrowings and deferred payments To avoid excessive leverage, the aggregate consolidated borrowings and deferred
payments of the REIT have been capped at 50% of the value of the REIT assets. Ifthe same exceeds 25%, requirement of credit rating from a credit rating agencyand approval of majority of investors has been specified.
Valuation of assets To ensure that the underlying assets of REIT are valued accurately, requirement of
a full valuation including a physical inspection of the properties has been specifiedat least once a year. Further, a six monthly updation in the valuation capturing keychanges in the last six months has also been specified. Consequently, the NAVshall be declared at least twice in a year. Provisions have also been specified forvaluation in case of any material development.
Detailed disclosures have been specified for the annual and half-yearly valuationreports.
Further, for any purchase of a new property or sale of an existing property, it hasbeen required that a full valuation be undertaken and the value of the transactionshall be not less than 90%/ not more than 110% of the assessed value of theproperty for sale/purchase of assets respectively.
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Regulatory Framework
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Rights of investors In order to ensure safeguarding of interests of the investors, several rights have
been provided to the investors in order to empower them.
The investors shall have right to remove the manager, auditor, principal valuer,seek delisting of units, apply to SEBI for change in trustee, etc.
Further, an annual meeting of all investors is mandatory to be convened by theTrustee wherein matters such as latest annual accounts, valuation reports,performance of the REIT, approval of auditors & their fees, appointment ofprincipal valuer, etc. shall be discussed.
Further, approval of investors has been made mandatory in special cases such ascertain related party transactions, any transaction with value exceeding 15% ofthe REIT assets, borrowing exceeding 25%, change in manager/ sponsor, change ininvestment strategy, delisting of units, etc.
In order to ensure that a related party does not influence the decision, it has beenspecified that any person who is a party to any transaction as well as associates ofsuch person(s) shall not participate in voting on the specific issue.
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Regulatory Framework
Taxation of REIT
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Taxation of REIT
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Business Trust [REITs]
Interest
From SPVExempt u/s
10(23FC)SPV not required to
deduct TDS
Distributed to profit holders
TDS deductible by Trust
For Resident – 10%
For Non-Resident – 5%
Dividend from SPV
Exempt in the hands of Trust
SPV will not pay
Distributed to Unit Holders
No requirement of DDT
Capital Gains
Sale of shares of SPV/Real Estate Assets
Taxable as LTCG/STCG in the hands of Trust
Distributed to Unit Holders
Other Income of Trust
Taxable in the hands of Trust
At maximum marginal rate
[30%]
Distributed to Unit Holders
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Taxation of REIT
Taxation of Interest Income of REIT: The income by way of interest received by REIT is given
pass through treatment i.e., there is no taxation of suchinterest income in the hands of the trust.
Attention is invited to section 10 (23FC) of the Income TaxAct which provides that any income of REIT by way ofinterest is exempt from tax.
However, pursuant to section 194LBA, withholding tax atthe rate of 5 per cent is applicable in case of payment ofinterest component of income distributed to non-residentunit holders and 10 per cent is applicable in respect ofpayment of interest component of distributed income to aresident unit holder.
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Taxation of REIT
Taxation of Dividend Income: The dividend received by REIT shall be subject to
dividend distribution tax at the level of SPV.
Accordingly, such dividend is exempt from tax in thehands of the trust.
Taxation of Capital Gains: The income by way of capital gains on disposal of
assets by the trust shall be taxable in the hands of thetrust at the applicable rate.
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Taxation of REIT
Taxation of Other Income: As per section 115UA, any income of the trust other than interest,
dividend and capital gains shall be taxable at the maximum marginalrate.
TDS u/s 194LC: In case of external commercial borrowings by REIT, the benefit of reduced rate
of 5 per cent tax on interest payments to non-resident lenders shall beavailable on similar conditions, for such period as is provided in section 194LCof the Act.
Filing of Return of Income: Pursuant to section 139 (4E), all REITs are required to file return of
their income compulsorily.
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Taxation of Unit Holders
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Taxation of Unit Holders
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Unit Holders
Dividend from
REIT
Exempt
Capital Gains
Distributed by
Trust
Exempt
Sale of Units
LTCG-Exempt
(subject to STT)
STCG taxable at 15%
Interest from REIT
Taxable
Trust will deduct TDS
For non-residents – 5%
For Residents – 10%
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Taxation of Unit Holders
Taxation of Capital Gains on Transfer of Units of REIT:
The listed units of a business trust, when traded on a recognizedstock exchange, would attract same levy of securitiestransaction tax (STT), and would be given the same tax benefitsin respect of taxability of capital gains as equity shares of acompany.
Accordingly, long term capital gains on transfer of units of REITwould be exempt from tax in the hands of unit holders while theshort term capital gains would be taxable at the rate of 15% u/s111A of the Act.
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Taxation of Unit Holders
Taxation of Distribution of Interest Income ofREIT:
Pursuant to section 115UA, if in any previous year, thedistributed income or any part thereof received by aunit holder from REIT is of the nature of interestincome in the hands of REIT, such distributed incomeor part thereof shall be considered as income of unitholder and shall be chargeable for tax as income ofthe said previous year.
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Taxation of Unit Holders
Taxation of Distribution of Dividend Income of REIT: Section 10 (23FD) of the Income Tax Act provides that any
distributed income received by a unit holder from REIT isexempt from tax except the income received which is inthe nature of interest income in the hands of REIT.
Accordingly, the distribution of dividend income of REIT tounit holder is exempt from tax in the hands of unit holder.
Taxation of Distribution of Capital Gains of REIT:: Since REIT is already charged for tax on the income of
capital gains, unit holder is exempt from tax on account ofdistributed income of REIT from its capital gains.
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Taxation of Unit Holders
Taxation of Distribution of Other Income of REIT:
Pursuant to section 10 (23FD) of the Income Tax Act,any distributed income received by a unit holder fromREIT is exempt from tax except the income receivedfrom interest income in the hands of REIT.
Accordingly, the distribution of any other incomes ofREIT to unit holder is exempt from tax in the hands ofunit holder.
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Taxation of Sponsor
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Taxation of Sponsor
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Transferor / Sponsor
Exchange of shares of SPV with units of the Trust
At the inception
It is not a taxable transfer
Subsequent disposal of units of the Trust
Acquired by way of exchange of shares
Taxable as Capital Gains
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Taxation of Sponsor
Meaning: Sponsor means any person and its associates, if any, whosets up the REIT and assigned as such at the time of applicationmade to SEBI and who holds not less than 25% of the units of REITat the time of making application for registration to SEBI.
Sponsor may assign its own properties to REIT against theallotment of units of REIT as consideration.
The capital gains arising to the sponsor at the time of exchange ofshares in SPVs with units of the business trust shall be deferred andtaxed at the time of disposal of units by the sponsor only.
For this purpose, an exemption has been introduced by virtue ofclause (xvii) of section 47 which provides that any transfer ofcapital asset being share of a SPV to REIT in exchange of units ofREIT shall not be regarded as transfer and hence no capital gains ischargeable.
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Taxation of Sponsor
However, the preferential capital gains regime (consequentialto levy of STT) available in respect of units of business trustwill not be available to the sponsor in respect of these unitsat the time of disposal.
Accordingly, sponsor cannot claim the benefit of exemptionof LTCG as envisaged in section 10 (38) and of reduced taxrate of 15% on STCG as envisaged u/s 111A of the Act.
Further, for the purpose of computing capital gain, the cost ofthese units shall be considered as cost of the shares to thesponsor.
Besides, the holding period of shares shall also be included inthe holding period of such units.
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Responsibilities of various parties to the REIT
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Responsibilities of various parties to the REIT
Responsibilities of the Trustee
The Trustee shall be independent of sponsor and manager and holdthe REIT assets in the name of the REIT for the benefit of theinvestors in accordance with the Trust Deed and the proposedRegulations. The role of Trustee is primarily supervisory in nature.
The Trustee shall ensure that the activity of the REIT is beingoperated in accordance with the proposed Regulations. Forachieving the same, certain specific obligations are also imposedon the Trustee, details of which have been provided in theproposed Regulations.
The right and obligation to convene meetings of the investors shalllie with the Trustee and he shall follow procedures for holding suchmeetings as specified in the proposed Regulations.
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Responsibilities of the Manager The manager shall primarily assume all the operational responsibilities
with respect to the activity of the REIT. Roles and responsibilities of themanager shall be specified in the agreement entered into between thetrustee and the manager.
To ensure that the activities of the REIT are managed professionally, ithas been specified that the manager needs to have atleast 5 years ofrelated experience coupled with other requirements such as minimumnetworth, manpower with sufficient relevant experience, etc.
Responsibilities of manager shall range throughout the life of the REITright from the application for registration, issue and listing of units ofREIT, day to day operation and management of the assets of REIT tillthe delisting of units, if any. Manager shall be responsible for variousoperational aspects including appointment of various parties to theREIT, procedural aspects of issue and listing of the REIT units,investment decisions, disclosures and reporting, distribution ofdividends etc.
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Responsibilities of various parties to the REIT
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Responsibilities of sponsor and the valuers The sponsor’s responsibilities shall primarily pertain to setting
up of the REIT including appointment of the Trustee. Thesponsor shall also be obligated to maintain a certain percentageholding in the REIT to ensure a ‘skin-in-the-game’ at all times.Even in those cases where the sponsor sells its units it shallarrange for another person/entity to act as the re-designatedsponsor.
Further, a minimum net worth and experience criteria have alsobeen laid down for the sponsor in the proposed Regulations.
For ensuring fair and transparent valuation of the assets, thevaluers have been obligated to follow valuation principles, haverobust internal controls, have manpower with sufficient relevantexperience, etc.
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Responsibilities of various parties to the REIT
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How this will help real estate industry?
Big will be bigger
Liquidity for big commercial projects
Small investors can participate
Value can be unlocked
More transparency
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Benefits for small real estate players
A REIT can invest in small properties also which are pre-leased.
However properties need to be 100% clear
100% white money
Diversification requires all REIT to have their assets in multiple geographies and / or different type.
Overall good for real estate Industry
THANK YOU