Glitzy skyscrapers, plush office spaces and large warehouses are no longer the sole domain of private equity biggies and ultra HNIs (high net-worth individuals). Now, those with a minimum of Rs 25 lakh can now own a slice of ‘Grade-A’ commercial real estate in large cities and industrial hubs that include IT (information technology) parks, office spaces in posh locations and warehouses that are leased out to e-commerce firms. All thanks to the fractional investing concept.
How does it work?
Online investment platforms such as Definite, Strata, Myre Capital, hBits, Propertyshare, and Assetmonk are wooing investors with a concept that seeks to offer partial ownership in physical assets. Typically, the portal offering fractional ownership would list a ‘Grade-A’ commercial property, which already has a tenant, for investments on its platform. For instance, if the property costs Rs 50 crore, an investor can commit Rs 25 lakh, Rs 1 crore or even a higher amount.
For each commercial property, a Specific Purpose Vehicle (SPV) is created. The funds collected from investors are routed through a trusteeship company or a limited liability partnership (LLP) within which the SPV operates. The SPV purchases the property. Each fractional owner is a shareholder in the SPV proportionate to his/her contribution to the property.
The SPV’s only purpose is to hold the property on behalf of the customers. No other operational activities are carried out by it. The investment platform assumes responsibility of the SPV and the underlying property on behalf of the customers. While some portals buy the property and then sell it to fractional owners, others pool the money from investors and then purchase the asset. In both cases ownership is transferred to fractional owners through an SPV,
Investors have to sign relevant SPV agreements to be registered with the ‘Registrar of Companies (RoC)’ under the Ministry of Corporate Affairs (MCA). The sale agreement of the property is registered with the ‘Sub-Registrar’ office under whose local jurisdiction the property is situated. All the documents can be signed either digitally or physically.
The lease/rental agreement, title report, sale deed and SPV agreement are shared with the investors. It is also accessible on the investor’s dashboard in the portal. The ‘Property Sale Deed’ along with the SPV agreement copy constitutes proof of ownership. The same details will be maintained in public databases, government records and the investor’s dashboard.
Is it regulated and are investors’ interests protected?
Unlike mutual funds and shares, where clear regulations are in place, fractional ownership in commercial real estate is a relatively new concept. But the company/LLP offering the services comes under the ambit of the RoC under MCA. The investment portal offering the services has to obtain a licence from RERA (Real Estate Regulatory Authority) for its operations.
“All payouts including rental income and proceeds from the sale of property are managed by the trusteeship company. The trustee is the guarantor of the investments,” explains Varun Mohan, founder and CEO, Definite.
What is the eligibility for investing?
Any Indian citizen or an NRI (Non-Resident Indian) can own commercial property subject to he/she providing valid KYC (Know Your Customer) documents and following regulatory guidelines. But NRIs can make investments only through their NRO (non-resident ordinary) accounts.
How about the returns, the tax impact and management fee?
Investment platforms do not guarantee returns. But they offer indicative returns for the property—rental yield of 8 percent-10 percent or Rs 2 lakh to Rs 2.5 lakh per year for an investment of Rs 25 lakh and IRR (internal rate of return) of 16-20 percent over five years. “There are very few products that give such good returns in the form of a monthly cash flow. That is the advantage with fractional ownership in commercial real estate,” says Aryaman Vir, founder and CEO, Myre Capital.
“Investors should have a long-term perspective of at least 3-5 years before committing funds. This (commercial real estate) is no place for quick gains,” says Sudharshan Lodha, co-founder and CEO, Strata. “The portfolio should also be diversified across geographies and verticals to ensure optimum returns,” he says
A TDS (tax deducted at source) of 10 percent is adjusted for by some investment portals on the rental income before the payout is made. The profit on sale of commercial property is considered as capital gain. The same is considered as long-term if the property is held for more than 24 months and is be taxed at 20 percent, irrespective of the quantum of gains.
However, if the property is sold before 24 months, the profit becomes taxable as short-term capital gain and is taxed as normal income. A management fee of 1 percent per annum on the ownership amount is charged by the investment portal.
How can investors exit?
Investments typically have a lock-in of six months, but there are also portals that do not impose any such restriction. Exits happen in three ways—in the resale market that is done through the investor’s dashboard, private sale where investors are free to sell their fractional ownership to anyone on their own, which is subject to valid KYC and regulatory guidelines. The third route is through complete asset sale when the entire property is sold and the money is given to investors. Complete exit happens only when those holding majority investments in the SPV agree. The valuation, when a complete sale of the property happens, is done by leading real estate consultants such as JLL, Knight Frank and CBRE.
How different is it from REIT (Real Estate Investment Trust)?
REITs are regulated by SEBI and are much more secure. But executives at investment platforms that offer fractional ownership in commercial real estate say that the yields in REITs are much lower. “REITs have generated only 6 percent-7 percent (per annum) in the last two years. Also, there is no room for capital appreciation in REITs,” Mohan says.
What are the risks?
The COVID-19 pandemic has resulted in ‘work from home’ becoming the norm, especially in the IT sector. Lockdowns and ‘work from home’ have severely hit occupancy and rental incomes in commercial real estate. If the property remains vacant for several months, investors would not be able to get any return despite committing huge sums of money. Economic downturns would also hit profitable exits as there would not be any takers for the property. “Every product has its own inherent risks. If the property remains vacant, investors would not get the rental yield,” Mohan says.
Given the huge sums to be committed and the risks involved (though returns are high), retail investors must stay away from such investments.
(Source: Moneycontrol)
