Published on April 17, 2024 at 4:03:43 AM
Own a real estate without burning hole in pocket
Apart from investing in conventional instruments such as fixed deposits (FDs), bonds, shares, mutual funds (MFs), gold etc, investors can also invest in real estate to diversify their portfolios. But traditional investing in real estate needs a substantial amount of money which can get locked into relatively lesser liquid assets for a long time.
Despite having the potential to provide long-term appreciation in the capital invested, investments in physical real estate have some challenges, like –
a) Large investment: Buying a real estate property usually requires a very large investment. So, it takes a considerable time to choose the right property and to arrange the money. A bad investment may not only generate poor returns, but also mar the chance of utilising the money somewhere else more profitably. Due to the involvement of a large amount of money, reselling a property also takes time.
b) Poor liquidity: As finding a good property to invest in and getting a buyer while reselling are time-consuming affairs, liquidity is a big issue in real estate investments.
c) Maintenance: Real estate – especially buildings – needs regular maintenance, involving money and time. During a change in tenancy, it’s a must for the owner to colour walls and do other necessary maintenance work before putting a building on rent again.
d) Occupancy: To ensure regular rental income, a building can’t be left vacant due to want of tenants. So, after a tenant vacates a building, the owner should look for another tenant, negotiate for rent, and complete the rental agreement, which may be a time-consuming assignment.
This is where modern alternatives such as Real Estate Investment Trusts (REITs) come into play.
What are REITs?
Suppose you see a property that can generate huge rent. But it is very costly. So, you pool in money from 10 people and the rent, as well as the property’s cost gets divided among the 10 investors. This would a be a crude example of how REITs work, more or less like a mutual fund.
There are both listed and non-listed REITs. Of course, the listed REITs have offer higher liquidity.
The four listed REITs in India are:
- Brookfield India REIT
- Embassy Office Parks REIT
- Mindspace Business REIT
- Nexus Select Trust REIT.
While the first three are office-backed, Nexus Select Trust is India’s first retail-asset backed REIT. In our next article we will delve deeper into the returns generated by the particular REITs. For now, we will focus on the broad REIT market.
According to rating agency CRISIL, India’s top 10 commercial real estate owners have the potential to raise as much as Rs 1.5 lakh crore through the real estate investment trust (REIT) route. REITs helps developers get money to deleverage their balance sheet, while providing public an opportunity to take part in the commercial real estate market.
Provide higher upfront cash to asset holders, which will help partly ease the pressure on their balance sheets. They can use the divestment proceeds to reduce debt and sustain construction activity. This will also improve their credit profiles, as seen in India’s first REIT, Embassy Office Park REIT – listed in
Benefits of REITs
Following are the benefits of investments in real estate through REITs:
(i) Small Investments: Like mutual funds, REITs pull small amounts of money from several investors and invest the collected corpus in lucrative real estate properties. So, investors don’t need to lock large amounts of money in a single property.
(ii) Diversification: As REITs invest the pulled corpus in different real estate projects, investors enjoy the benefit of diversification without investing big amounts of money. So, REITs lower the risk of locking large amounts of money in a single property, which may turn out to be a bad investment.
(iii) Liquidity: As units of REITs are traded in the markets, investors may sell any number of units whenever they want and get the entire or a portion of the money back. So, REITs provide much better liquidity to the investors, compared to purchasing a single property with a large amount of money and waiting for a purchaser, who is willing to buy the property at a competitive price and can afford to pay the amount.
(iv) Professional Management: Under REITs, an investor needn’t worry about searching for the right property, doing paperwork, searching for tenants, negotiating for rent, ensuring good occupancy rate and maintenance as all the things will be taken care of by a team of professionals.
(v) Returns: Along with capital appreciation by investing in properties with good prospects, REITs also provide regular payout by distribution of rental income. As per the SEBI guidelines, REITs are mandated to invest at least 80 per cent of their corpus in constructed properties and 90 per cent of the rental income generated from such properties has to be distributed to the investors. As most of the corpus of REITs is invested in constructed properties, it safeguards the investors' money by not allowing them to divert it for funding constructions. On the other hand, distribution of 90 per cent of rental income among investors ensures a regular cash flow for them.
Taxation
Regular income and sale of the units of REITs are taxed differently.
Tax on regular income: Regular income distributed in the form of dividends are tax free in the hands of investors, distributions of rent or any other income are taxed as per the marginal tax slab of the investors.
Tax on sale of units: Tax rates are different for short-term and long-term capital gains.
Tax on Short-Term Capital Gains: If any gain arises out of the sale of any units of REITs before the expiry of three years from the date of purchase of the units, such gains are considered short-term capital gains and are taxed at a rate of 15 per cent.
Tax on Long-Term Capital Gains: If any gain arises out of the sale of any units of REITs after the expiry of three years from the date of purchase of the units, such gains are considered long-term capital gains. Such gains up to Rs 1 lakh in a financial year are exempted, while gains above Rs 1 lakh are taxed at a rate of 10 per cent.
Endnote
Buying a real estate property for self-occupation provides a person with his/her own sweet home and relieves him/her from the burden of paying rent. However, for investment purposes, instead of locking large amounts of money for buying subsequent real estate properties, investing in REITs may be a better option.
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