Reits

You’ve seen Donald Trump on television – being a property tycoon sounds wonderful. Realistically, however, you would like exposure to the sector without too much risk. Welcome to the new world of UK real estate investment trusts.

Are Reits as complicated as they sound? It all seems baffling . . .

No. The concept is utterly basic. Reits are property companies which pay no tax.

That simple? Surely not?

That is it. Companies such as British Land, Slough Estates and Workspace which used to pay corporation tax and capital gains tax will no longer do so.

Why on earth would the government do that?

Ministers believe that any potential loss of tax is the price to be paid for allowing private investors easier access to an asset class which, over the long term, has proved to be stable and income-generating. The Exchequer will still receive oodles of tax. But instead of reaping it from the companies, it will lop it off dividend payouts at a personal level. In addition, companies will have to pay a conversion charge equivalent to 2 per cent of gross assets. Executives think this is not a high price to pay.

What does it mean for me as a shareholder?

A Reit has to pay out 90 per cent of its rental income in the form of dividends. So although those dividends are still taxed, you should see a jump in your payout.

Bonanza time!

Not exactly. Some property companies pay an annual yield of less than 1 per cent. This is because many are more focused on achieving capital growth through development. If sector yields doubled, UK Reits would still pay off less cash to their shareholders than Reits in many other countries.

So others have done this before?

Yes. The Americans, Australians and Dutch have had similar tax-efficient property vehicles for decades. The past few years have seen a rush of others joining in: Japan, Hong Kong, France and – this year – Italy and France.

And Reits are popular elsewhere?

Yes, in most Reit jurisdictions they have replaced ordinary property companies as the favoured way of holding property. In Japan, however, J-Reits and listed property companies exist side by side.

Why would anyone invest in a property company which did not have Reits’ tax advantages?

There are some bonuses to staying outside Reitworld. UK Reits are restricted in how much they can borrow and how much development they can do. Overseas property owned through foreign subsidiaries is not eligible for tax-free status. As a result, most will be UK-focused and act more as landlords than developers – although they may still build new schemes. Many investors may prefer more racy exposure to foreign property and/or wholesale development.

So some companies will not convert?

Exactly. The 60-odd companies on Aim are not allowed to become Reits, although some may move to the main market in order to do so. Many of the new vehicles investing in Europe or China and India will not convert. Nor will some of the most well-known developers such as Minerva, Development Securities, St Modwen and Quintain. In addition, several property companies, including Mapeley and Capital & Regional, are already tax-efficient through offshore structures.

So the arrival of Reits will not be a big revolution?

It could still have massive ramifications. You can already see the re-rating of the major companies. Groups such as British Land used to trade at big discounts to their net asset value (what their portfolios are worth) because of the tax issue. Now they are trading at premiums.

What else may change?

We could see many private property companies floating. Pub companies and hotel groups could spin off their property portfolios as Reits. So the array of listed property vehicles open to private investors could expand rapidly.

And what about the fund management industry?

Billions of pounds’ worth of UK commercial property is held by institutional investors such as Standard Life, Schroders, Axa and Prudential. Many of their funds (usually unit trusts) have migrated in recent years to offshore locations – such as Jersey – to avoid UK taxes. Given the cost of switching to Reit status they may stay where they are. At the same time, fund managers will seriously consider launching new vehicles as listed Reits. In the meantime, the government is looking into ways to set up unlisted Reits which would have similar returns patterns to offshore unit trusts.

It sounds like a good time to be buying into the sector, right?

Not necessarily. Over the long term, UK Reits should prove a popular investment giving investors easy access to property. But prices have risen rapidly in the past three years and some experts fear that certain assets are now overpriced. Tax-free perks cannot make up for a period of underperformance. The tricky thing is predicting when the bull market will end. In the meantime, rising rents may keep profits ticking over nicely.

Where can I find out more?

The British Property Federation and others have set up a website: www.reita.org/live