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REITs - the worldwide choice for property investment Back  
The recent KPMG global guide to Real Estate Investment Trusts ('REITs') gives an overview of the principal tax, legal and regulatory features of the principal REIT regimes around the world. The comparison is interesting for Irish investors and raises the question of whether there is any need for a similar regime here.
Background
There has been a rapid development of REIT regimes in recent years to meet growing demand for tax efficient, liquid and transparent vehicles for property investment. While REITs have been a longstanding feature of the property investment landscape of the US and Netherlands, for example, they are a relatively new phenomenon for many countries such as our neighbours in the UK, France and Germany. A REIT is a form of collective investment vehicle that is normally tax-transparent and available to both corporate and private investors. A REIT owns and manages income-producing property, commercial or residential, and sometimes, its shares are listed and traded on a stock exchange. REITs collect income from rented property assets and distribute most of it to shareholders. In return the REIT is typically exempt from corporation tax, thereby avoiding double taxation at both corporate and investor level and better aligning the return with that of direct property investment. Investment in property through investment vehicles involves less time and capital outlay than direct investment. REITs are typically more flexible and have a lower requirement for capital outlay than traditional property investment vehicles.

The KPMG guide
The guide was published in March 2007. It provides a high level summary of the characteristics of the REIT regimes in Europe (UK, France, Belgium, Italy, Germany and Netherlands), Asia Pacific (Hong Kong, Singapore, Australia, Japan, South Korea), the United States and Canada. The following provides some flavour of the information provided on the range of practices:

• REITs in the UK, Canada and Australia, are governed by tax law whereas in most other jurisdictions they are also subject to some other laws or regulations.

• In some countries, REITs take the form of corporations, for example Germany, whilst in others they must take the form of unit trusts, such as Hong Kong and Canada. Other countries accept various legal forms such as trusts, partnerships and companies.

• A number of countries have no restrictions on the percentage holding which may be held by single investors, for example Australia, Belgium and Italy whereas most countries either don't allow, or penalise, scenarios where single or small groups of investors hold significant holdings, for example UK and Germany penalise greater than 10p.c. holdings.

• Countries vary greatly with regard to whether there is a requirement to list on the local stock exchange with, for example, the US, Italy, Netherlands, Australia and Japan having only optional listing while most other countries covered having mandatory listing at least in relation to some types of REITs.

• The vast majority of REITs allow for overseas property investments outside of the REIT's own jurisdiction.

• Most REITs have restrictions on the level of non real estate investment, with the exception of Italy.

• With the notable exceptions of US, Canada, Japan and France, most REITs have leverage limitations. Apart from the UK, which uses an interest cover ratio of 1.25, the other limitations are based on a percentage of assets held by the vehicle.

• Apart from Italy, all other locations covered by the report require minimum levels of distribution of income by the vehicle. The lowest of those covered required 80p.c. distribution. Most countries also impose a requirement to distribute at least some gains realised or penalise their non distribution. Notable exceptions include UK, Italy, Belgium, Netherlands and Singapore subject to certain conditions.

• Most REITs effectively exempt distributed profits from corporate income taxes. An exception is Hong Kong which subjects local property to property or profits tax. Apart from Australia and Japan, most also exempt capital gains but a number have similar distribution requirements in this regard.

• Most countries impose withholding tax on distributions broadly in line with their general withholding tax rules and subject to double tax treaty relief.

• Many REITs suffer stamp duty or similar taxes on the acquisition of the real estate. Where transfer taxes exist on the transfer of shares, such taxes can apply on the transfer of REIT units also, for example 0.5p.c. stamp duty reserve tax applies in the UK.

• The treatment of REITs income in the hands of domestic corporate and individual investors varies widely from country to country. Of more interest is the treatment of foreign investors, for example, Irish investors in such vehicles.

With the notable exception of Hong Kong, almost all jurisdictions impose dividend withholding tax, subject to treaty relief, on dividends from REITs. In Australia, there is also the further possibility of direct assessment on the foreign investor. There is a wide variety of treatment of distribution of capital gains, returns of capital distributions to foreign investors and capital gains on disposal of shares in REITs by foreign investors. While many countries do not deduct tax on these events, this is an area which would need careful review.

The Irish implications
With the exception of certain exclusions in respect of non domiciled and non ordinarily resident individuals, Irish resident individuals are subject to Irish taxation on their worldwide income and gains. Tax therefore applies to income and gain distributions received from a REIT. It is worth noting that while REITs are typically transparent for overseas tax purposes they are not necessarily so for Irish tax purposes for which they may often ( but not in every instance depending on structure) be regarded as separate entities.

Under the offshore funds regime, since 2001, income and gains from qualifying offshore funds (i.e. funds based in EU countries and OECD countries with which Ireland has concluded a double tax treaty) were subject to a maximum income tax rate of 23p.c and were generally known as 'good' offshore funds. The definition of 'good offshore funds' has been considerably restricted in the Finance Act 2007 to certain categories of regulated funds which REITs would often not fall into. Investments in unregulated funds in 'good' jurisdictions, which no longer qualify, will fall outside the funds regime. Therefore, income will be subject to marginal tax rates and capital gains will be subject to the 20p.c. rate. For funds located in 'bad' jurisdictions, the marginal tax rate of 41p.c. can apply to both income and gains. Obviously this would be very negative as compared with direct property investment.

Anti avoidance legislation also requires consideration. Measures in Finance Act 2007 introduced penal tax rates in respect of certain regulated onshore and regulated off-shore funds where the selection of the assets or property is, or can be, influenced by the investor or a person connected with or acting on behalf of the investor. These are known as personal portfolio investment undertakings ('PPIUs'). Many REITs do not fall within the categories of regulated entities covered by the legislation. Those which do may fall within the exclusions for certain publicly marketed funds but this needs to be examined on a case by case basis.

More general anti-avoidance legislation can also be of concern such as Section 806 which attributes income to an Irish resident if the income arose as a result of the transfer of assets abroad if the transfer is not for bona fide reasons or if the main purpose was avoidance of tax. Unfortunately the 2007 Finance Act has now limited the exemption for bona fide transactions to those involving a trade. Section 807A can make similar attributions without the Irish resident having made a transfer. Other provisions exist to attribute the income and gains of certain non resident companies and trusts to Irish residents.

The case for an Irish REIT?
Ireland does not currently have a REIT regime per se despite the fact that the buoyant property market provided the optimal conditions for such vehicles over recent years. However, Ireland has been in an unusual position of having a capital gains tax rate (20p.c.) much lower than the higher marginal income tax rate (currently 41p.c.), thereby enhancing the attractiveness of direct investment in property over any type of collective investment vehicle.

Furthermore, somewhat like Luxembourg, Ireland has the capability of providing exposure to regulated property funds, including for example Professional Investor Funds('PIFs)' and Qualifying Investor Funds ('QIFs'). These funds are classified as non UCITs funds which gives the Regulator more flexibility regarding the relaxation of certain conditions and the legal structure is more flexible than that of a company. For example, while leverage would normally be restricted to 25p.c. of assets, which would not be attractive in the context of property investment, by confining the categories of investors, to whom a fund will be sold, to 'sophisticated' investors with relatively high minimum subscription levels, investment and borrowing restrictions are reduced in the case of PIFs and in particular, QIFs.

These property funds are treated as gross roll up funds for Irish tax purposes which means that income and gains can roll up tax free within the fund, without any obligation to make distributions. Disposals are deemed to take place every 8 years to which a 23p.c. exit tax is applied. Traditional REIT structures would therefore not offer any tax advantage over regulated property funds in an Irish context. In any event, the new PPIU anti-avoidance regime will be an impediment to a widening of the regulated funds regime to encompass a wider array of property investment structures, as it potentially can result in an increase in the rate of capital gains tax from 20p.c. to 43p.c.. While exclusions apply, broadly in respect of funds marketed to the public, this is an important potential pitfall.

Notwithstanding this, the whole area of regulated property funds remains relatively untapped in Ireland by comparison with Luxembourg, for example. To make Irish vehicles attractive for investments in overseas property, further expansion of our treaty network would be an important factor. The challenge for the industry is to continue working with the Financial Regulator and tax authorities to develop solutions agreeable to all parties which will help Irish investors to avail of new opportunities which may arise in this sector.
For copies of the report, email: taxmonitor@kpmg.ie

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