The time is REIT
Housing providers should be gearing up to take advantage of real estate investment trusts, argues corporate tax lawyer Nathan Williams
In a climate of funding constraints, housing providers should be looking at alternative and novel ways of raising funds to push forward their affordable housing agendas. This has recently been highlighted by the London Borough of Barking & Dagenham’s privately funded affordable housing development and Aviva Investors funding arrangements with Derwent Living.
With imminent changes to the real estate investment trust regime outlined in the Finance Bill 2012 and the recent closing of the government’s consultation on social housing REITs, is it now time for registered providers and other housing providers to seriously consider the opportunities REITs may provide to the sector.
The perception has been that anticipated rental yields were too low for institutional investors to consider investing in affordable housing REITs… Arguably, this will be the biggest challenge to the success of such REITs.
A REIT is a listed corporate vehicle that invests in real estate assets, enabling its shareholders to invest in a property portfolio without having to directly purchase properties. The object of REITs is to replicate as far as possible the direct investment in property assets. The UK REIT regime was introduced in 2007 and take-up has been slow owing in part to a number of barriers to entry into the regime.
However with last year’s introduction of a new stamp duty land tax relief for the transfer of residential portfolios and the announced changes to the current REIT regime, there is clearly an attempt by the government to encourage more capital to be invested in residential property through REITs.
One of the main benefits of REITs is their tax exemption and obviously this in itself would not be an attraction to charitable RPs and local authorities, who already benefit from certain tax exemptions. However, the abolition of the 2 per cent entry charge, the ability to list on the AIM, and the relaxation of the diversity of shareholding rules and moving properties off the balance sheet to a liquid REIT, while retaining tax exemption, could be attractive to RPs. In addition, with the private rented market continuing to show steady growth, it may be a good time for RPs to launch REITs and in doing so raise funds for future housing developments.
The changes would enable smaller entities to enter the REIT regime at lower cost, so potentially enabling RPs to put some or all of their rented housing stock into a REIT. The REIT would then list on theAIM, with the ability to raise equity instead of debt to fund development. Variations on this theme could include the transfer of housing stock into a REIT but with the RP retaining all the shares in the company, at least in the short term to build reputation in the REIT in order to seek other investors or setting up a REIT with other landlords to spread risk.
As has already been pointed out by some commentators, the relaxation of the REIT regime will potentially provide RPs with greater access to capital markets as an alternative to debt financing, which is to be welcomed in the sector.
There are challenges including making residential REITs an alternative source of funding for affordable housing providers and investors will ultimately depend on the anticipated investment returns and the housing provider’s appetite for risk and managing conflicting priorities.
The perception has been that anticipated rental yields were too low for institutional investors to consider investing in affordable housing REITs. With the potential for significant arrears to arise as a result of changes to the housing benefit system this perception is unlikely to change any time soon. Arguably, this will be the biggest challenge to the success of such REITs.
The creation of a REIT assumes that the housing provider would be happy to see its stock transfer into a separate entity, and even with any leaseback arrangement, some housing providers will have little appetite to give away the family silver.
On a practical level, the transfer of housing stock to the REIT may present regulatory, existing bank security and other administrative hurdles for the RP to overcome, increasing costs along the way. These factors could mean that rather than seeking funding from equity investors under REITs, a RP finance department instead, continues to rely upon the familiar bond market or debt financing.
However, the legislative changes to the REITs regime and the outcomes from the government’s consultation may yet persuade investors (institutional or otherwise) to see affordable housing REITs as an asset class worth investing in. If this means more funding becoming available for housing providers then affordable housing REITs should, at the very least, be on the radar of housing providers, if not already under consideration by them.