Real Estate Investment Trust _REITs_ - Official Website of the

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Real Estate Investment Trust _REITs_ - Official Website of the Powered By Docstoc
					On resiste a l‟invasions des
armees; on ne resiste pas a
    l‟invasion des idees
   (Victor Hugo - 1852)

“Nothing is as powerful as an idea
     whose time has come”
           WHAT IS A REIT
Real Estate Investment Trust is a mutual fund
that invests in properties and derives income
from such investments for its unit holders.

Globally, REITs are open-end structures. In
Pakistan, initially closed-end structure is being
introduced owing to high redemption and
systemic risk.

REITs are very diverse - investments are in
office buildings, residential, shopping malls,
hospitals/ schools and industrial uses.
                       GLOBAL REITS
•Globally, REITs is a rapidly growing asset class
 - market capitalization increased by 26% during
 the year 2007.
•US Market is in a state of contraction.
•Growth in the Asian market coupled with
 growing REIT sector in the UK has offset the
 effect of the US market decline.
•Total Real Estate owned by REITs globally is
 USD 1.273 trillion.

Note: All figures relate to publically listed REITS.
            GLOBAL REITS
•Asia is widely regarded as the new REIT tiger.

•High dividend yields and stock premiums are
 main characteristics of Asian REIT.
•For instance: Singapore has an annualized
 yield of 12%, and REIT stocks trade at a 71%
 premium to NAV.
•Australia is the second largest REIT market in
 the world. Grew by 45% in 2007.
•Cross border investment flows is a key
 characteristics of Asian REITs.
                         2006               2007

     North               253                195
     EMEA                59                 102
     (Europe, Middle
     East and Africa)
     Asia                75                 83

     Pacific             64                 68
Note: Decline in US partly recessionary and partly owing to M&A
activity and conversion to PE.
            INHERENT RISKS
•Currently no method of price discovery in the RE

•Only a handful of properties in Pakistan with
transparent leases. Antiquated rent control laws.

•History of scandals in the RE Sector (Co-operative
Societies, Twin Towers Modaraba, etc.).

•Differential between the “real price” and the
“recorded price” can be as high as 900%– e.g.
            INHERENT RISKS
•Tax load on land as high as 28% - e.g. Lahore.
•Land value can be higher than Southern Europe –
e.g. Islamabad.
•Tax regime is leading to the conversion of genuine
white money into black money.
•The taxation structure is also responsible for the
“build and abdicate” culture – i.e., no RE
development is planned for rental purposes.

•Multiple licensing jurisdictions in each town with no
overall urban planning or fiscal framework.
                                LAHORE                         KARACHI
                         Rate of Levy   Cost in Rs.   Rate of Levy     Cost in Rs.
Cost of Land – 8 kanal   -              1 bn          -                1.2 bn
Registration Fee         1%             10 m          1%               12 m

Stamp duty               2%             20m           3%               36 m

Transfer Fee (Lhr)/      1%             10m           1%               12 m
CDGK Tax (Khi)
Commercialization Fee    20%            200m          Rs. 8000 per     32 m
                                                      sq, yard =
                                                      2.67 % in this
CVT                      2%             20 m          2%               24 m

Expediting payments      Approx. 2%     20 m          4%               50 m

Total Additional Cost    28%            290 m         13.67%           166 m
The two year research process revealed
decades of fiscal neglect (at the provincial
SECP, therefore, had two options:

- wait for fiscal and legal reform in the
provinces – i.e. delay REITs for several
years; or
- launch REITs with appropriate firewalls.
       RE MARKET
•Improve price discovery for both rental and sale
•Promote development of long-term rental market. In RE,
money is mainly made by transacting in „open‟ plots – no
real benefit to the economy or to society.
•Capacity building - modern valuation          standards,
professional fund management and trustee.
•Promote high quality construction as promoters will seek
long-term revenues rather than the current practice of
„build and abdicate‟ – i.e. reduce speculative activities.
•Increase supply of residential and commercial properties.
•Alternate asset class which will increase the supply
of securities with the combined benefits of an
„equity security‟ and „real estate‟.
•Provide real estate upsides to non-property owning
segments of society.
•Will broaden and diversify the mutual fund industry.
•Units of the Scheme listed and traded on the Stock
Exchange (therefore greater corporate governance
and liquidity for investors).
•FDI flows will be enhanced as this product will
provide a structure to a largely unregulated market
 RE is a provincial subject. The pace of progress
  could not be dictated by the Federal
  Government/ SECP. Therefore, it was crucial that
  the Commission be given enhanced regulatory
  control and fast track remedial capability
  through improved legal empowerment.

 The Federal Government (June 2007) greatly
  enhanced our powers to deal with the NBFC
  sector through a series of amendments in
  Section 282 of the Companies Ordinance.
 The Federal Government, through Finance Act 2007,
  allowed REITs the tax pass through status (in line
  with mutual funds).

 Reduced tax on rental income to 5% (full and final
  settlement). This is a major incentive to promote
  transparent leases in Pakistan.

 To encourage transparent sale transactions, the
  Federal Government has provided exemption from
  tax to sellers of property to REITs (up to 2010).
    Status of Implementation of
    SECP‟s Recommendations
Federal Government

  No progress on following two issues:

      •Abolition of CVT (should not have been imposed
       by the Federal Government. in the first place –
       Provincial issue)

      •Abrogation of Rent Control Law in Islamabad
     Status of Implementation of
     SECP‟s Recommendations
Provincial Government (Legal)

   • No progress on legal and fiscal issues
   • Punjab‟s new draft Rent Law has the same basic
     deficiencies as the existing law
   • Punjab has the highest concentration of historical
     towns in Pakistan
   • Older parts of these towns are in drastic need of
     “Urban Renewal”, can only be done if “Renovation” is
     added to the reasons for eviction
   • The figure of 10% as an annual rent increase needs to
     be abolished as it imposes an unnecessary hurdle in
     supply of rentable properties
      Status of Implementation of
      SECP‟s Recommendations
Provincial Government (Fiscal)

    • All the fiscal deliverables for REITs are contained in National
      Housing Policy 2001 and the Punjab Development Report 2005

    • Owing to very high Property Tax Rates, Rental REITs are not
      feasible in Lahore – only 1 building with transparent leases in
      the whole town!!!

    • Developmental REITs are more likely to emerge in the “non-
      LDA” parts of Lahore owing to very high Commercialization
      Fees (LDA)
          Status of Implementation of
          SECP‟s Recommendations
               SECP‟s Recommendations                      Status
Abrogation/drastic amendments to Rent Control Laws           X
New Law development – Condominium Law                        X
Reduction in transaction costs (stamp duties, registra-
tion and commercialization fees and other levies)            X

Tax pass through status (Parallel to mutual funds) on 90
distribution of income
Reduction in tax (on rental income to 5%)                    √
Reduction in CVT on all RE transactions                      X
Tax waiver for sale of properties to REITs (till 2010)       √
•Transaction Costs
            -Elimination of 2% CVT on all RE transactions.
         - Downward revision of Stamp Duty and Registration Fee.
         - Drastic downward revision of Commercialization charges.
         - Change in method of calculation of Commercialization fees/
        property taxes to a covered area formula with zero tax for
        aesthetics (e.g. parks, fountains) and utilities (car parks,
        -Elimination of differential in property tax applicable on rented
        and owner-occupied property.
•The total tax load on a RE transaction should not exceed 4-5% -
international best practices.
It may be noted that all these fiscal reforms are „revenue-neutral‟.
These reforms already in NHP 2001, Punjab Development Report 2005
(World Bank) and the Housing Advisory Group of State Bank (2007).
Clearly the cost of delaying fiscal and
legal reform is very high as the current
tax regime is leading to the conversion
of genuine white money into black

It is also one of the primary reasons for
RE development to remain a “cottage
                                 Unit holders
                    Holding of units     Distributions

                                                Acts on behalf
                  Management Fee                of unit holders
Management                         REIT                          Trustee
 Company      Management Services                 Trustee fees

                       Ownership of          Net property
                       assets                Income (from rental or sale)

                                   REIT Assets
(maintenance of
•Types of REIT Scheme Projects envisaged in the REIT
   •Buy-Build-Sell REITs (Developmental REIT -
   popular form of RE investment in Pakistan).
   •Rental REITs (Rental REIT - transparent leases are
   very rare in Pakistan).

•Trust Structure with following key players:
      •REIT Management Company (RMC)
      •Unit Holders

•Listed Closed End Fund.
The minimum fund size of a REIT Scheme
shall be Rupees Five (5) billion.
RMC shall maintain at least 20% of the
units of the REIT Scheme and a maximum
of 50%.
Real Estate along with necessary
approvals to be provided by the RMC.
Initially REITs would be allowed in
Islamabad/Rawalpindi, Karachi, Lahore,
Peshawar and Quetta.
No taxation if 90% of the income of the REIT is
A REIT Scheme shall undertake only one Real
Estate project.
RMC may undertake more than one scheme.
Portfolio of buildings allowed for Rental
•The good news is that the licensing window for
REITs is now formally open.

•The bad news is that initially the success rate
of REIT applications is likely to be low.

•RE development in Pakistan is a fragmented
activity – only one public listed company.

•Interest in REITs is very high. However, many
aspirants lack requisite expertise. To develop
this sector, foreign collaboration and joint
ventures will be encouraged.