A few weeks ago, Ayala Land Inc., one of the largest developers in the Philippines, has filed for application for the country’s first Real Estate Investment Trust or REIT with the Securities and Exchange Commission (SEC). Named AREIT Inc., this newly formed entity aims to raise as much as Php15.10 billion from the issuance of the REIT and will be offering 502.57 million common shares at Php30.05 per share.
Its portfolio is concentrated on commercial properties Solaris One, Ayala North Exchange, and McKinley Exchange Corporate Center in the company’s bailiwick of Makati. The proceeds of the REIT will be earmarked for future real estate investment projects in Metro Manila and other key regions. Once approved by the SEC and the Philippine Stock Exchange (PSE), the firm will begin its initial public offerings. With this bold move from Ayala, other developers like Double Dragon Properties Corp., Megaworld Corp., Robinsons Land Corp., and Century Properties Group Inc. have also shown interest.
What Are REITs
REITs have been introduced in the country by way of Republic Act 9856, or the REIT Law of 2009—the legal framework for Real Estate Investment Trust and Other Purposes. Authored by then Aurora Representative Juan Edgardo M. Angara in Congress, and filed by the late senator Edgardo J. Angara in the Senate in the same year, the law was created to “promote development of the capital market, democratize wealth by broadening the participation of Filipinos in the ownership of real estate in the Philippines, use the capital market as an instrument to help finance and develop infrastructure projects, and protect the investing public by providing an enabling regulatory framework and environment, under which real estate investment trusts, through certain incentives [sic] may assist in achieving the objectives.”
A REIT is a “stock corporation established in accordance with the Corporation Code of the Philippines and the rules and regulations promulgated by the Commission principally for the purpose of owning income-generating real estate assets.” Essentially, it is a publicly listed company that pools funds from investors to reinvest in real estate through buying, selling, and leasing properties and other income-generating assets. They earn through periodic cash inflows such as rentals of properties in its portfolio (like commercial or office buildings, retail establishments like malls and commercial spaces, industrial estates like warehouses and storage facilities, and other real estate assets like hotels, hospitals, retirement villages, etc.), and by any other means as dictated by its by-laws.
The basis of REIT is to “democratize wealth”—the public has the opportunity to participate and enjoy the financial benefits from an income-generating real estate asset. It allows people to own or finance properties, while eliminating the nuisances of actual ownership like high entry capital (usually in millions of pesos), mortgage and other acquisition costs, repairs and maintenance, tax payments, and tenant management among others.
For example, in a traditional real estate investment, a financier will buy a property worth millions, take care of acquisition costs (actual price of the property, including taxes and other dues like condo or association dues), handle repairs and maintenance, look for and manage tenants, and pay for mortgage if the property was acquired through a bank loan or any other form of financing. Investing in a REIT eliminates all those elements after buying the stocks, and the investor will just have to wait for the annual dividend pay-out since professionals will be involved in managing the real estate portfolio.
For a corporation to qualify as a REIT, it has to fulfill the following prerequisites: (i) minimum paid-up capitalization of Php300 million at the time of incorporation; (ii) maintain its status as a listed company; (iii) upon and after listing, have at least 1,000 public shareholders each owning at least 50 shares of any class of shares, and who, in aggregate, own at least one-third (1/3) of the outstanding capital stock; (iv) must comply with foreign ownership limitations in the Philippine setting (for a REIT that owns land located in the country); (v) must pay annual dividends of at least 90% of its distributable income to its shareholders; (vi) must have majority of ownership and financing in real estate; and (vii) must be professionally managed by a third-party property manager and fund manager separate from the REIT entity.
There are two types of REIT: Equity REIT and Mortgage REIT. An equity REIT is a type of REIT that manages and operates a wide range of property sectors (retail, commercial, hospitality, or a combination of these), where revenues come from threefold income generated through rental of assets, dividends, and capital gains. AREIT Inc. (which has commercial properties in its portfolio) is an Equity REIT. Mortgage REIT, on the other hand, is generally from the residential and commercial sector, where revenues come from interest earned in mortgage or mortgage-backed securities. These REITs have higher yield, higher risk compared to the equity type. There is a third type—Hybrid REIT—which is just a combination of the two.
REITs were established in the United States by way of Congress in the 1960s, while it has been in the Asia-Pacific Region since the early 2000s: Singapore (1999), Japan (2000), South Korea (2001), Malaysia (2002), Hong Kong (2003), Taiwan (2003), Thailand (2007), Indonesia (2009), and India (2014). Although REITs, in essence, are the same, there are major differences like the REIT’s asset class types per country (office, retail, hospitality, industrial, and specialized assets), minimum public ownership (ranging from 20% to 40%), and dividend yield (which depends on the performance of the REIT in the market).
In the Philippines, although the law governing REITs was enacted in 2009 and its initial Implementing Rules and Regulations (IRR) approved by the SEC on May 13, 2010, there were no interests from property developers to buy in with the investment tool due to the very high minimum public ownership (MPO) requirement and issues on Value Added Tax (VAT) on transfer of the assets to the REIT. However, due to the continued boom of the real property development sector, partnered with the Build, Build, Build program of the administration, the SEC, Bureau of Internal Revenue (BIR), and the Department of Finance (DOF) have decided that now is the right time for REIT. The SEC has recently released Memorandum Circular No. 1, Series of 2020 which provided the new IRR of the REIT Law to address the minimum public ownership requirement among others, while, the BIR issued Revenue Regulation No. 03-2020 stating that transfer or exchanges of real property for shares of stocks in a REIT shall be exempt from VAT.
Pros and Cons of Investing in REIT
Just like any other financial venture, there are both advantages and disadvantages to investing in REIT. According to Peter Harris, a real estate investment consultant from Commercial Property Advisors in the United States, and author of Commercial Real Estate for Beginners, here are things one has to deliberate on when considering a REIT investment:
Disadvantages
1. Lack of diversification
Income potential of each REIT is dependent on what is on its portfolio. In the first REIT of Ayala Land, all three properties are commercial buildings. If you want to invest in hospitality, retail, income-generating residential properties, or any other property type, you would have to reinvest in a different REIT, or a different investment fund.
2. Slow growth
Higher yields usually signify higher risks. A more aggressive, volatile investment would mean higher yields, but the stakes are greater if not done right. Based from data from other ASEAN REITs, the average annual yield is at 5.5%. REITs are all for sustainable, longer-term, slow growth—think marathon, than sprint.
3. Tax treatment
On the trust level, REITs are tax-exempt. This generosity has been the point of hesitation in finally letting this ship sail due to the potential revenue loss from the national government. The dividend pay-outs, though, do not experience the same generosity, as they are categorized as taxable income.
Advantages
After considering the above factors, if you are still keen on investing in REITs, which can be categorized as moderately conservative, here are the advantages or benefits waiting for you.
1. Higher dividends
Since it is a multibillion-peso industry, it is sure to reap higher rewards or dividends, compared to, say an individually managed rental property. The vastness of the portfolio in itself indicator of the potential revenue that could be generated in a single REIT investment. If the all the qualification of the REIT as a corporation is met, then it will not have to pay corporate taxes. For example, if the REIT has earned Php30 million in taxable income, it has to distribute 90% or Php27 million to its shareholders. Given this number, and at 30% publicly listed, that is roughly Php 8.1million to be distributed to all its public shareholders.
2. Income Secured by Long-term Leases
Since the REIT has an initial capitalization of Php300 million, it has stable and high-end properties in its portfolio. Just the three commercial buildings in AREIT are found in the Makati CBD and Bonifacio Global City, where major offices and business are likely to set up shop. Commercial lease rates in Metro Manila’s major CBDs are on the higher end of the spectrum, and terms usually range from 3 to 5 years. Some can even go as long as 10 years.
Vacancy in the commercial real estate market is also in the single digits, so we can expect stability in this sector. The retail sector is also looking up since the Philippines is seen as a shopping mecca, with several shopping malls with both local and international retail establishments patronizing it. Although tourism has experienced a slight slowdown due to the eruption of Taal Volcano eruption and more recently by the COVID-19, there is still a market for the hospitality sector, as the projected occupancy is at 70%, with continued demand in tourist hotspots in the country.
3. Liquidity
Just like stocks, you have the option to be liquid with your investments and buy out whenever you see fit. Unlike properties that you would still have to sell, or insurance investments that have maturity dates, you have the option to either continue and grow your investment in REIT, or sell and trade your shares. Should a need to cash arises, or if the investment is not performing as you expected, or you have already achieved your goal or potential for that investment, then you have that option to sell your stocks. It is still best to keep your investments intact, as it may hold greater gains, but having an exit option just makes it easier.
4. Professional Management
A REIT has to have a property manager, an accredited fund manager, accountants, independent directors, among other vital roles in the organization. Though independent from the REIT, its promoters, and sponsors, they have to have a proven track record and has a key role in supervising the properties in the REIT portfolio. Oftentimes, individually-owned income-generating real estate like apartments or condo units are self-managed by owners. There is nothing wrong in this, though things would be easier with a third party provider, especially if handling a larger group of assets. Having a good property manager (among other key players in the REIT) provides a solid, standard foundation for operating it smoothly, and to the best of its income-generating potential. Owners or shareholders of the REIT will have eliminated management-related headaches by hiring them to run business operations efficiently.
5. Transparency through the SEC and regulatory commissions overseeing the REIT
Since REITs have been introduced by way of law, its operations will be heavily overseen and regulated by the Securities and Exchange Commission, the Department of Finance, and the Bureau of Internal Revenue. This is to ensure that there is equal opportunities for all parties involved in the management of this investment. The SEC also has the discretion to impose administrative sanctions in the event of any violation of the REIT Law, its IRR, and the Securities Regulation Code, and its IRR. The involvement of the government will safeguard all stakeholders in the business, and will give guidance and regulation in the industry practices.
How to Invest in REITs
As with all types of investment, there is never too much information. One must arm themselves with enough knowledge and a decent understanding of the venture you are going into to minimize losses and maximize gain. Always do your due diligence and research. Look at the below items before you considering jumping into the REIT bandwagon.
1. Look for REITs with strong property managers with a proven track record
Having a strong property manager ensures that properties in the portfolio are taken care of. Instead of spending on repairs and maintenance, they have the expertise to manage all aspects of the property from the actual structure to its occupants. Property managers can also track rental contracts and payments, collect other fees like association dues or CUSA (Common Use Service Area) fee, deal with complaints or other tenant concerns, even deal with problematic tenants, and look for new vendors. Their job includes marketing and advertising vacancies, screening potential tenants (doing necessary background checks. They also act as the mediator between the owner and the tenant, to ensure that decisions are made for the best of both parties, and not tainted by personal biases. Keeping occupancy at an optimum level is the job of the property management to ensure maximum income potential.
2. Look for REITs with quality portfolio and tenants
Part of your dividends will come from the existing portfolio of your REIT—its properties and the tenants that come along with it. Do your research as to what kind of asset class you wish to invest it: (i) if residential, check vacancy rate and turnaround of rent renewal; (ii) if commercial real estate, check vacancy rate and tenants and businesses that occupy the spaces; (iii) if retail, check its location, catchment area, nearby competition, etc.; and (iv) if hospitality, how is tourism in the area. Check market trends and financial projections; these will help you in deciding the best REIT to invest in.
3. Look for REITs in economic strongholds (location)
As in any business, location is paramount. Imagine having two different REITs: a REIT with a commercial portfolio in the Makati CBD and a REIT with commercial portfolio in Dumaguete. Let’s say they have the same amount of leasable space, same occupancy rate, and same tenant composition and nature of business. Due to the difference in the portfolios’ locations, the performance of the REIT in Dumaguete may be slower than that in Makati CBD – if only considering the higher rental rates of properties in Makati.
Investing is a great way to put your money to work and build wealth. Arm yourself with enough information and the necessary know-how to take advantage of this new investment vehicle. Much like other investments like stocks, bonds, mutual funds, bank products, savings, annuities, retirement funds, insurance, insurance + investment funds, REIT is a good way to grow savings and boost your income. As the country’s real estate sector continues to mature and grow, it is indeed the right time for REIT, and Ayala Land has just taken the first step to launch this financial product. Everyone else is seen to follow suit.
