Democratizing the capital market

MANILA, Philippines - Both companies that own real estate assets as well as small investors, including overseas Filipino workers looking for a safe haven for their hard-earned money, are looking forward to a brighter and more lucrative future ahead of them with the passage of a law that will, among other things, make investing in real estate a better proposition.

Republic Act no. 9856, which took effect on Feb. 9, 2010, provides for the legal framework for real estate investment trusts or REITS.

A REIT is basically a stock corporation established principally for the purpose of owning income-generating real estate assets.

These early, a number of the country’s real estate giants, such as SM Prime Holdings, Inc. which is the country’s largest mall operator, and property giant Ayala Land, Inc. (ALI) are looking at raising $300 million each through a REIT. This, some observers note, is a clear sign that the REIT is bound to be a gold mine.

The REIT Act will provide a regulatory and tax incentive framework for real estate companies to raise cash by publicly listing their income generating assets such as malls or office buildings.

Shares of REITs are to be listed on and traded at the Philippine Stock Exchange. Individual investors may invest in these firms, allowing companies to raise funds from their REITs. The law also provides for certain tax incentives but continue to enjoying these, the REIT must maintain its status as a listed company and annually give out at least 90 percent of distributable income to shareholders.

The transfer of assets into REITs is seen as funding most of SM Prime’s P12-billon capital spending this year, while the excess could be used to pay down maturing debts.

Meanwhile, ALI plans to raise $300 million by converting some of its income-generating assets such as malls and office buildings into REITs during the second half of the year.

ALI chief financial officer Jaime Ysmael said the company has already begun to identify potential assets for a REIT offer through financial adviser JP Morgan.

Based on the draft implementing rules and regulations of the REIT Act, some of the incentives that REITs are bound to enjoy are: that they will not be subject to minimum corporate income tax (MCIT); any sale or transfer of real property to a REIT, including the sale or transfer of any and all security interest thereto shall be subject to 50 percent of the applicable documentary stamp tax (DST); all applicable registration and annotation fees relative or incidental thereto shall be 50 percent of the applicable fees; any sale, barter, exchange or other disposition of listed investor securities through the Philippine Stock Exchange, including cross or block sales with prior approval from the PSE shall be exempt from DST; any initial public and secondary offering of investor securities shall be exempt from the initial public offering (IPO) tax imposed under the National Internal Revenue Code; a REIT shall not be considered as a dealer of securities and shall not be subject to value-added tax (VAT) on its sale, exchange or transfer of securities forming part of its real estate-related assets, among others.

In addition, overseas Filipino investors are exempt from the dividends tax for seven years from the effectivity of the tax regulations implementing the Act. If a domestic corporation is the REIT investor, the dividends will be exempt from tax.

But here’s the caveat: a REIT will be required to distribute at least 90 percent of its distributable income every year so investors get regular dividends.

One gets to invest in a REIT by subscribing to or purchasing shares of stock of the REIT via the stock exchange. This is one way of democratizing wealth by broadening the participation of Filipinos in the ownership of real estate in the Philippines. Ordinary citizens now have the chance of owning shares in a REIT, which under the law is required to have a minimum paid-up capital of P300 million.

The law also limits REITs to certain investments, including real estate outside the country provided it does not exceed 40 percent of its deposited property and only upon special authority from the Securities and Exchange Commission; real estate-related assets; managed funds, debt securities and listed shares issued by local or foreign non-property corporations; government securities whether of the Philippines or other countries as well as securities issued by multilateral agencies; among others. A REIT may invest not more than five percent of its investible funds in synthetic investment products such as, but not limited to, credit default swaps, credit-linked notes, collateralized debt obligations, total return swaps, credit spread options, and credit default options, and only upon special authority from the appropriate regulatory authority.

However, at least 75 percent of the deposited property of the REIT must be invested in, or consist of, income-generating real estate.

A REIT cannot undertake property development activities whether on its own, in a joint venture with others, or by investing in unlisted property development companies, unless it intends to hold the developed property upon completion. The total contract value of property development activities undertaken and investments in uncompleted property developments should not exceed 10 percent of the deposited property of the REIT.

The law also requires that not more than 15 percent of investible funds of the REIT may be invested· in any one issuer’s securities or anyone managed fund, except with respect to government securities where the limit is 25 percent.

Also, the total borrowings and deferred payments of a REIT should not exceed 35 percent of its deposited property.

All these features, observers say, make investing in REITs less risky, especially for small-time and risk-averse investors.

And just like banks where its officers and directors are subject to the scrutiny by the Monetary Board for their qualifications, the law requires that the SEC or the concerned regulatory agency shall pass upon and review the qualifications and disqualifications of individuals elected or appointed as directors or officers of the REIT, REIT fund managers, REIT property managers, distributors and other REIT participants and disqualify those found unfit. The appropriate regulatory agency may disqualify, suspend or remove any director or officer who commits or omits an act which renders him unfit for the position. This is to maintain the quality of management of the REIT and afford better protection to REIT investors.

In determining whether an individual is fit and proper to hold the position, regard shall be given to his integrity, experience, education, training, and competence. Just like in the case of banking institutions where the fit and proper rule applies.

And to better ensure transparency and accountability, the proposed listing rules of the PSE require that at least one-third of the board of directors of REITs must be independent directors.

Real Estate services firm CB Richard Ellis Philippines earlier said that it sees an uptake in the property market growing by at least 10 percent this year pushed by liquidity, election spending, bank lending and the enactment of the REIT Act.

CBRE Philippines chairman Rick Santos said the new law would be a big boost to the property sector.

“It will be great for developers, foreign investors. It would create liquidity, strengthen the capital market. It will be good for the man on street as it would allow him to invest along with the big guys and the landed families,” Santos said.

He said REIT, which would allow property developers to unload some of their assets into REIT companies, would help translate to the growth of the commercial and office segment, retail tourism and even industrial and logistics centers.

“It would be a good shot in the arm for these sectors especially as we see more and more outsourcing, foreign investors coming,” Santos said.

There have been 28 entities inquiring with the PSE about enlisting their REIT vehicles.

Aside from SM Prime and ALI, the Lopez-owned Rockwell Land Corp. is said to be exploring the REIT as an alternative source of funding their real estate portfolio expansion.