When setting up a UK property investment business, the default position is to do so via an overseas special purpose vehicle (SPV). However, this is now being challenged on a number of fronts, including tax, fund administration, increased liquidity and public perception. In this article, we look further into these drivers and provide a reminder of the key conditions that need to be considered before converting to a REIT.
A UK REIT is a closed-ended publicly traded company that provides it’s investors with access to investment into property assets within a tax efficient wrapper. When initially launched in 2001 the take up was limited to mainly existing large listed property companies, such as Landsec and British Land, which having built up large property gains, the ability to convert to a REIT enabled them to eliminate any latent capital gains and in return for increased liquidity.
The governing REIT legislation sets out the requirements which must be satisfied in order for a UK property business to be granted UK REIT status. Here we note some of those “compliance” features, but not limited to:
- Be solely resident in the UK for tax purposes;
- Have a listing on a recognised stock exchange, including AIM;
- Not be an open-ended investment company;
A UK REIT must have a property rental business which forms its tax-exempt business. Whilst it can have other taxable businesses, the property rental business must:
- Consist of at least 3 single properties, with no one property representing more than 40% of the total value of properties in its rental business;
- For each accounting period, distribute at least 90% of its property rental business profits by way of a dividend (known as a property income dividend or PID);
- At the beginning of each tax accounting period, at least 75% of the REIT’s gross assets must relate to the property rental business or be cash and cash equivalents;
There are clear tax benefits to converting into a REIT, with no UK corporation tax payable on profits or capital gains on the disposal of assets. It should, however, not be overlooked that REITs are still required to prepare tax returns under a shadow tax regime and as part of this requirement, there is a mandatory requirement to claim Capital Allowances, which in turn provides a benefit by retaining cash in the business which would otherwise form part of the PID.
Instead the dividends from REITs are treated as property income to an investor, subject to withholding tax at the basic rate of income tax. For some, mainly institutional investors, they are able to gain an exception to such a charge, by registering to receive the dividend gross rather than net and this includes charities, UK companies and pension funds.
Then there is the ability to increase liquidity which the REIT regime allows investors to tap into and at the same time the REIT can benefit by diversifying its investor base, with an internationally recognised investment wrapper and providing the opportunity for future fund raising.
From a fund management point of view, operating it from the UK can have perceived benefits, removing the need for overseas fund administration.
The REIT regime will however not fit every property model, for example, for properties to be part of the tax-exempt business any redevelopment activity whose cost exceeds 30% of the fair value of the property and a disposal is made within three years of practical completion of the development, then it is deemed to fall outside of the tax-exempt business.
With the move by HMRC to bring non-resident landlords under the UK corporate tax regime from 1 April 2020, it can be argued that it further strengthens the pull to bring investments back onshore.
Since the relaxation of the entry rules, including the abolition of the entry charge, there has been an increasing appeal to converting property businesses into a UK REIT, with a greater focus on sector specialists, such as in student accommodation, logistic warehouses, healthcare and the private rented sector. It therefore seems on reflection, that with income hungry investors, that the REIT option is one that will increasingly be considered, and that the number of listed REITs will only continue to grow.