THE real estate business is free from all necessary legislation. While the commercial and residential projects are undertaken in non-corporate sector, the offices and residential apartments built by them are sold at exorbitant prices.

The buyers have no say in the transaction, as simply an application form is signed by them without having signature of the builder thereon. Normally the builders do not adhere to possession plan. The prices are escalated during construction unilaterally by the builders.

Moreover, a major portion of the price is collected from buyers under hand and the very low declared price is collected officially. Though this practice of under-valuation of properties finds its justification in high amount of taxation/levies imposed on registration, property tax etc., and despite being in the knowledge of all concerned authorities it is hardly questioned. This results in loss of considerable revenue to the exchequer.

The capital gain arising out of the sale of immovable property is not taxable by virtue of the constitutional protection given to such income. However, the judiciary has restricted exemption of such income to the extent where such income is not in nature of trade.

The Securities and Exchange Commission of Pakistan (SECP) in this scenario has ventured and legislated to document the real estate business through an organised corporate sector. The SECP has issued the Real Estate Investment Trust (REIT) Regulations 2008 which aims at documenting and providing transparency to real estate business.

The SECP has developed the REIT Regulations keeping in view the local environment and domestic corporate culture. The REIT Management Company (RMC) and its Trust are the two main pillars of REIT.

The trust provides that the RMC is required to be incorporated as a public limited company. It will have directors and chief executive who shall meet the specified fit and proper criteria approved by the SECP.The RMC will be incorporated under the Companies Ordinance (CO) 1984 where no condition is prescribed for appointment of directors/chief executive.

It can be questioned as to why appointments of these officers by the RMC is restricted to it and not applied in case of such appointments in other companies incorporated under the CO, where the board constituted by the companies, especially listed companies, comprises even college going children and housewives of the sponsors. The public-listed companies are family dominated and managed with the board comprising unskilled and inexperienced members. Consequently, 60 per cent of the listed companies are dormant on the stock exchange, resulting in huge losses to investors.

A number of conditions have been prescribed in R.3 for the RMC to be fulfilled. At the time of applying for a licence as a NBFC, it shall have a paid-up capital of Rs50 million which shall be increased to Rs500 million within 30 days of the registration of the REIT Scheme (RS). It shall hold 20 per cent to 50 per cent of the units of RS managed by it for the life of RS. And such units shall be non-transferable without prior approval of the commission.

A real estate and other assets of the RS shall be acquired in the name of the trustee for the benefit of the unit holders. A RS shall not undertake more than one project which shall on completion be disposed of, the proceeds shall be distributed amongst the unit holders and RS shall be dissolved.

The regulations are silent over the issue that whether on dissolution of RS, a RMC can launch other RS, or the RMC will also be reconstituted for the purpose. The approved value of real estate forming part of the RS shall not be more than 50 per cent of the REIT Fund raised through the issuance of units.

A RMC shall ensure that the REIT fund shall have a minimum size of Rs5 billion and that the units are listed on the stock exchange. It will have two REIT schemes--- Development REIT Scheme where the fund under it shall be used for the development or refurbishment and subsequent sale of the real estate according to approved business plan. The other is Rental REIT Scheme where fund under it shall be responsible for the refurbishment and/or subsequent rental of the real estate according to the approved business plan.

A RMC shall obtain approval from the commission of the Real Estate which is to be transferred to the proposed RS. A real estate of REIT is restricted to be located in the federal capital and in the capital of the four provinces. A RMC with the approval of the commission shall appoint trustee among a scheduled bank, a trust company which is subsidiary of a scheduled bank, a foreign bank, a depository, registered with the Commission and such other person as the commission may specify. The trustee shall ensure that the REIT functions in confirmative with the regulations and other applicable laws. It will carry out its functions to safeguard the interest of the unit holders in liaison with the RMC and the commission.

The SECP keeping in view the market tendency that in most of the cases, property transactions are grossly under valued to avoid levies/taxes, has required a RMC to appoint a person to evaluate, subject to conditions specified in the regulations, to value the real estate acquired, developed or sold by the RS.

The basis of evaluation of the real estate adopted shall be the market value based on the realistic, relevant and adequately assumptions to be stated in the valuation report. This provision will raise specific problems of high cost for REIT because of the high fiscal levies such as stamp duties, commercialisation charges, local government charges and corruption cost etc. which will increase the cost of the project. Hence it would be comparatively cost disadvantage to it.

A RMC shall, in the case of a Development RS, acquire the real estate in the name of the trustee with full payment for it and obtain all requisite approvals from the concerned authorities for the construction of the project. It is anybody’s guess of the time factor involved in the process of approvals. And in case of Rental RS, in case of leasehold the minimum remaining lease period of the real estate is set of 30 years. A binding purchase agreement is required to be executed upon payment of a 25 per cent down payment for such real estate. The auditor of the REIT shall certify compliance of these requirements.

The regulations have restrictive conditions for policy for customer advances and borrowing by the RMC. The RMC shall invite the public to buy its units through an offering document which shall first be cleared by the stock exchange thereafter by the commission. The public offering is subject to restrictions of subscription by the RMC, IPO and the underwriters.

It is understandable that the SECP has developed the structure of REIT keeping in view certain inherent risks of the traditional commercially undertaken real estate development in domestic market. Therefore, it requires a RMC to approach the Commission time and again for approval of each document required such as valuation report of the real estate, even for name of the RS, for the appointment of trustee, business plan of the RS, besides others mentioned above. Thus the structure making REIT a complicated and cumbersome exercise would be an over-regulated sector.

Moreover, considerable time is involved in preparation and seeking approvals on each occasion from the commission for each and every document, especially when no time limit is set by the commission to grant approvals thereof. Considering normal practice of government officials as a guidance to guess the time usually they take in the process of approval, it can safely be assumed by the time the REIT is approved, the project may have lost its marketability and the exercise undertaken to prepare the projections will prove an exercise in futile at the cost of the promoters, sponsors and unit holders. However, there is need to show some flexibility in the legal structure in line with international trend with the passage of time.

Special tax incentives have been given to REIT e.g. the profits and gains accruing to a person on sale of immovable property to REIT is exempted form income tax up to June 30, 2010, but legal position is that it is already exempted as the federal government constitutionally cannot tax a capital gain accrued on sale of immovable property.

Further, the income of REIT is exempted provided the RMC distributes not less than 90 per cent of the profit arising out of REIT scheme to its unit holders as dividend in each financial year. But its benefit will not accrue to the unit holders as dividend income is taxable in their hands.

In fact such dividend represent income, especially in case of Development REIT, of capital gain should have been exempted too. Despite these incentives provided to the REIT with a view to attracting investment in this sector, these incentives alone cannot drive the popularity and acceptability of REIT to the present builders/developers of commercial and residential projects to share the cake in view of high margin of profit and freedom they presently enjoy in their business unless legislation is introduced to bring the real estate business under corporate sector through REIT. Only couples of other measures are needed to bring the unregulated domestic real estate market into regulatory framework and to make REIT a successful adventure.

The measures required to create an enabling environment includes improvement of registration of real estate system/levies thereon, introduction and amendment in the present laws e.g. benaami laws, the Rent Restriction Laws where under the tenants have upper hand, property tax law and others. One window service would certainly help to flourish the REIT.