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Why REITs are ideal for institutionalizing the real estate market

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At a time when financing real estate projects was becoming a challenge, REITs were introduced as an alternative source of financing to fill the financing gap and create a more inclusive market. However, they suffer from the weakness of Real Estate Investment Trusts, commonly referred to as REITs, which are regulated collective investment vehicles that invest in real estate. Essentially, REITs allow the average person to be one of many investors in a real estate investment or development project.

Understanding the REIT Landscape in East Africa

REITs are a fairly new concept in Africa in terms of low adoption rates at all levels.

Only a handful of African countries have incorporated REITs as an investment program, with a few being located in East Africa, namely: Kenya, Tanzania, Uganda and Rwanda.

Of the four countries mentioned, only Kenya has made significant progress (though still underdeveloped) in integrating REITs into their real estate markets. Real Estate Investment Trusts (REITs) were launched in Kenya in 2015 with the aim of developing the real estate market in the country.

In this structure, REITs were divided into Income REITs (I-REITs) and Development REITs (D-REITs). Some of the stipulated requirements include;

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  • I-REITs are required by law to return at least 80% of their income to unitholders in the form of dividends.
  • The minimum capital requirement for a trustee has been set at Ksh 100 million, which essentially limits eligible trustees to banks only.
  • The current minimum investment amount for a Development REIT is set at Kshs 5 million, which is considerably higher than the median gross income of Kshs 50,000 in Kenya.

Since their introduction, the Nairobi Stock Exchange has had several REITs licensed in Kenya, with the first REIT being the ILAM Fahari I-REIT. This closed type I-REIT has its shares listed on the stock exchange. Therefore, the market price of the shares is determined by the market and may not be equal to the net asset value of the ILAM Fahari I-REIT. However, the I-REIT Scheme may undertake secondary offerings if the need arises.

From the Direct Property allocation, the I-REIT is authorized to invest in the following sectors:

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  • Mixed-use developments
  • Business and commercial developments
  • Industrial projects
  • Hospitality and residential properties
  • Specialized buildings such as student residences, schools, etc.

Additionally, the market has evolved to accommodate alternative real estate asset class REITs such as Acorn Student Accommodation Interest Real Estate Investment Trust (ACORN I-REIT) and Acorn Student Accommodation Development Real Estate Investment Trust (ACORN D-REIT)

This has given an impetus to Kenyan industry players to work on introducing new products such as Islamic REITs and Social REITs in the market. In addition, the Government of Kenya has also implemented measures to attract investors to the REIT market. In June 2021, for example, the Cabinet Secretary, Ministry of National Treasury and Planning, Amb. Ukur Yatani has announced the cancellation of Value Added Tax (VAT) on transfers of assets into Real Estate Investment Trusts (REITS).

Interestingly, Tanzania is the only other East African country to have made notable progress with the incorporation of REITs into its real estate market. However, they only have one established in the country called Watumishi Housing Company Real Estate Investment Fund (WHC-REIT), which operates as a mutual fund. The primary objective of the WHC-REIT is to generate funds to develop lower-middle income housing to meet demands for affordable housing for public servants. While the REIT will also develop commercial properties, the focus will be on developing affordable housing for sale and rent with a target property price set between USD 10,000 and USD 40,000.

At launch, the REIT was expected to reach TZS 358 billion (US$164.7 million) by 2020 with stakeholders including; The Civil Service Pension Fund, Government Employees Provident Fund, PPF Pension Fund, LAPF Pension Fund, National Security Authority, National Health Insurance Fund and National Housing Corporation . As a result, WHC-REIT is responsible for building 50,000 homes in five development phases. The first phase, launched in December 2015, consists of 1,500 housing units in 11 regions of the country. As the main implementer of Tanzania’s civil service housing programme, the houses developed will be sold to civil servants under mortgage arrangements. This program aims to mitigate low rates of mortgage take-up by civil servants by arranging with banks for workers to access mortgages at 11-13% lower interest rates with bonds at higher long term up to 25 years.

On the other hand, while Uganda and Rwanda have put in place legislation to encourage the incorporation of REITs into their real estate markets, no real progress has yet been made.

Lack of proper structures and misinformation continue to hamper REIT market growth

Despite the many benefits of integrating REITs into the real estate market, countries are yet to reap the full benefits due to some major challenges. Using Kenya as a case study, here are some of the challenges preventing the full uptake and development of REITs in the country:

  1. High minimum capital requirement for a trustee: In Kenya, the minimum capital requirement for a trustee is set at Ksh 100 million, which limits the involvement of banking institutions as corporate trustees and other fund managers cannot afford.
  2. High Minimum Investment Amount: To invest in a Development REIT (D-REIT) in Kenya, you will need at least Ksh 5 million to achieve this. This amount of investment effectively excludes the majority of Kenyans who earn a gross median income of Kshs 50,000, preventing them from enjoying the many benefits of REITs.
  3. Inadequate Investor Awareness: A major problem with REITs in East Africa is the lack of awareness among potential investors. Although REITs were introduced in Kenya in 2013, it is not a well-known investment option among the population. This lack of knowledge is seen as a major contributor to the low underwriting rates and resulting poor performance of the FAHARI I-REIT and the failure of the 2016 Merger D-REIT issuance by Cytonn.
  4. Economic uncertainty: The COVID-19 pandemic has affected large sectors all over the world, including the African real estate market. Thus, many investors are reluctant to invest. Although the market is starting to see renewed interest with recent development projects announced recently.

Yet REITs remain the next frontier of growth towards the formalization of the regional real estate market

Despite the current disappointing performance of REITs in East Africa, there are opportunities for growth in the market. For countries like Kenya with high minimum capital requirements and high minimum investment amount, a review of these figures should be done to allow for a more inclusive regime for both potential trustees and investors. In addition to this, work needs to be done to educate the public about REITs, by organizing conferences and workshops. Finally, in countries like Uganda and Rwanda, the stage is set to leverage lessons learned from Kenya’s experiences for markets to take off.

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