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It was among the most overlooked parts of George Osborne’s autumn statement last year.
The announcement from the chancellor that real estate investment trusts – Reits for short – would from April be able to invest in each other without paying tax on the proceeds amounted to the biggest shake-up of the sector since it was established in the UK in 2007.
Reits are quoted companies that receive preferential tax treatment in return for paying out 90 per cent of their rental income as dividends.
In reaction to the news, Liz Peace, chief executive of the British Property Federation, an industry body, says: “We believe this will increase the attractiveness of UK investment property by making it easier for Reits to raise funds through joint ventures and co-investment arrangements.
“By allowing overseas Reits to take significant interests in UK Reits, the decision will ultimately increase the availability of capital to the UK market.”
The rule change was not totally unexpected. A Treasury consultation document in 2012 hinted that action would be taken to improve Reits’ attractiveness as an investment. Also in 2012, the government abolished the charge levied on companies wishing to convert to Reit status and relaxed some of the conditions on who would be eligible to convert.
The latest move has coincided with a recent rise in the UK commercial property market, with developers and investors becoming increasingly willing to invest after a five-year lull, raising hopes of further improvement.
It helps address investors’ criticism that the UK’s Reit market is not fully developed and to bringing Britain more in line with other countries that have embraced Reits, such as the US and Australia.
As the UK’s leading property companies converted to Reits when the structure was first introduced seven years ago, their ownership profiles were in many cases transformed. Before conversion, nearly three-quarters of their investors were domestic. Today, nearly three-quarters are from overseas.
Investors’ initial enthusiasm proved shortlived. The leading Reits’ share prices peaked shortly after they converted, with many still trading well below those highs.
Although the UK makes up just 3 per cent of the world’s Reit market, the sector is growing again.
Last year saw the launch of Tritax Big Box, the first Reit to specialise in logistics facilities. Property company Redefine International converted to Reit status late last year, citing the benefits of its internationally understood tax rules for doing so.
Lucinda Bell, finance director at British Land, one of the UK’s largest Reits, agrees that the chancellor’s rule change would help Reits attract more foreign investors.
“Co-ownership structures are increasingly important in real estate, because of the scale of many developments,” Ms Bell says. “This law change makes these kinds of structures more attractive [to investors].”
She notes that the change will make it easier for Reits to attract different types of investor. While pension funds may look for longer-term returns, private equity funds may be more willing to take risks – being able to parcel up particular properties or developments into individual Reits will let the parent company offer a choice of investments.
Phil Nicklin, a partner at Deloitte who was instrumental in drawing up the Reits regime, says the move made it easier for foreign Reits to buy their UK counterparts.
“Soon, overseas Reits may be able to acquire large stakes in a UK Reit without it forfeiting its UK Reit status,” he says.
He adds that “the jury is out” on whether such deals will happen.
Nick Hill, business development manager at CBRE Clarion Securities, an investment management company, says the move would make it easier for Reits to expand their activities, both by type of property and geographically – including overseas. This would increase the likelihood of mergers and acquisitions as well, he said.
Yet shareholders would want to see a clear justification for any such activity, Mr Hill warns.
“This is the next step in UK Reits’ evolution and a good sign that the government is supporting Reits and encouraging property investment,” he says. “It is a good way of taking a step into another market.”
One potential pitfall of the new arrangements is its complexity. CapitaLand, a Singapore-listed Reit, last year announced it was simplifying its structure in the interests of efficiency and competitiveness – a warning for any Reit thinking of diversifying widely, Mr Hill says.
This might not be the last word in Reits’ development. The US has an additional layer that gives tax advantages to companies partnering with a Reit, even when they themselves are not one. At present, there are no plans to introduce this in the UK.
The fact that the chancellor’s autumn statement had little impact on Reits’ share prices suggests that UK investors remain cautious.