Real Estate Investment Trust (REIT) tax dispensation in motion

Posted On Monday, 16 July 2012 13:18 Published by
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Bringing South Africa in line with international publicly traded real estate investments and creating greater investor certainty, SA National Treasury has tabled a unified approach to property investment schemes which analysts believe is set to create one of the most flexible regimes internationally.

Estienne De KlerkIn its Tax Amendment Bill published last week, National Treasury proposes SA’s adoption of the internationally recognised Real Estate Investment Trust (REIT) structure for financial regulation and tax purposes.

The bill includes proposals for creating SA’s REIT tax dispensation. The suggested REIT structure will encompass both the similar existing local structures, property loan stocks (PLS) and property unit trusts (PUT).

The Property Loan Stock Association (PLSA) has spearheaded the initiative to introduce a best-of-breed REIT in SA. This proposed tax legislation follows five years of consultation with National Treasury.

Estienne de Klerk, PLSA REIT committee chairman and executive director of Growthpoint Properties, says: “National Treasury has applied itself fully to understanding the fundamentals and nuances of the SA listed property sector. This is reflected in the positive proposals put forward for SA’s REIT tax framework. With the National Treasury, the industry will continue our discussions with the JSE and the Financial Services Board (FSB), to finalise regulatory requirements. We hope to do this swiftly, to allow National Treasury to complete all the tax amendments.”

De Klerk expects that investors will welcome SA’s first REITs in early 2013.

National Treasury’s proposed tax framework provides certainty on SA property investment companies’ taxation. It brings both local structures in line with each other and in line with leading international structures.

De Klerk explains that while the proposed tax framework allows the distinct foundations of PLSs and PUTs, both are treated equally under the tabled REIT tax dispensation.

For PLSs, it proposes free entry to the REIT structure. REITs will be exempt from capital gains tax on disposals of investment properties, reflecting the reality that trading in properties isn’t material for REITs, which undertake long-term property investments for rental income and capital growth.

The draft tax law is the basis for bringing an end to the complicated loan stock structure - units indivisibly traded on the JSE comprising debentures stapled to shares. This means that REIT distributions made to unitholders of converting PLSs will now be tax deductable dividends, taxed in investors’ hands at their applicable rates. The planned new structure will also be free from Dividend Withholding Tax.

For REITs and PUTs, the suggested tax framework grants reorganisation roll-over relief for merger and entity acquisition transactions.

This tax framework will be applied to all JSE-listed companies, present and future, that qualify as REITs.

To list as a REIT, National Treasury needs companies to meet four basic measures. They must have a minimum gross holding of property assets. They should invest in immovable property, direct and indirect. They mustn’t have excessive borrowing in relation to total gross assets. Finally, they have to distribute a minimum amount of their profits yearly.

De Klerk adds: “The levels for each requirement have yet to be finalised. They are expected to be a minimum property holding of R300 million, 60% gearing and around 70% of distributable profits, taking cognisance of the directors’ responsibility to ensure the solvency of the entity post the distribution.”

De Klerk notes that National Treasury’s proposed process to create a REIT is commendably straightforward.

PLSs opting to convert will adopt a standard memorandum of incorporation including the four criteria, once getting approval from investors. PUTs will include the criteria in their trust deed. Both must meet all the listing requirements of the JSE to qualify as a REIT on the bourse, and thus access the REIT tax dispensation. Converting PLS company directors will be responsible for ongoing compliance with the JSE and PUT trustees will continue to report to the FSB.

For distributions to be fully deductable from a REITs’ ordinary revenue, the tabled tax framework says they must stem from distributable income earned in the REIT’s current or immediately prior financial year. Further 75% or more of total gross receipts and accruals must be derived from rentals, as broadly defined. The definition of rentals will include revenue from direct and indirect local or international property holdings but will exclude interest earned and development profit.

While tax certainty is the largest advantage for the sector and its investors, de Klerk points out that other benefits will flow through. This includes the increased access to global investors with a recognised REIT structure.

De Klerk explains: “The sector will become eligible for inclusion in various global REIT indices. International flows from retail and institutional investors will more readily be able to find investment into SA REIT counters. This could improve liquidity and provide a broader investor base for pricing.”

Commenting on the impact, a local listed property analyst believes the likely structure would be one of the most flexible of REIT regimes internationally

"Although there will be very little or virtually no change to the yield that investors will receive, the tax certainty and hopefully unified and simple structure should make it more investor friendly, especially for foreign investors. In addition, SA listed property's weighting in most global REIT indices will get a substantial boost as currently only PUTs (25% of sector market cap) are included".

"Finally, the deferred tax liabilities on fund balance sheets should disappear, resulting in higher published NAVs for most of the property funds.
Although this is a positive development for the sector, it does not change our current view of the sector or our valuations".

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