Property as an asset class has seen a lot of development over the last decade. The UK listed property sector consists of more than 40 stocks with a total market capitalisation of over £42 billion. It is widely expected that a large percentage will convert to REITs in 2007.
REITs are not for everyone. The restrictions that have been imposed are seen as the price paid for the removal of the double tax charge and greater tax transparency. There remains a tax charge that will apply if a shareholder holds in excess of 10 per cent (although these rules have been relaxed). The UK legislation has also ruled that at least 75 per cent of earnings must come from rent. At the same time, borrowing is limited by a rule that rental income must cover interest by 1.25 times. From this, it becomes apparent that the REIT regime is one designed to provide investors with access to property markets but in a low risk, diversified, liquid manner.
This is emphasised by the requirement that REITs must pay out 90 per cent of income as dividends, ensuring liquidity in the market but also mirroring the delivery of returns where property is held as a direct asset. Using existing market intelligence, UK REITs should have a better risk/ reward ratio than tax-paying property shares. Indices such as the Sharpe ratio (simply, past performance above the riskfree rate, divided by volatility) of tax-paying UK property stocks over the last 10 years is 0.48, whereas the equivalent figure for the US and Australian tax-transparent REITs is 0.73 and 0.97, respectively.
Where there are quoted property companies then it is apparent dividend yield will play a much bigger role in performance analysis.
All very interesting but how can the Channel Islands assist?
The Channel Islands has a favourable tax regime (to be reduced to zero per cent with effect from 1 January 2009) and a canny ability to react to what the market is saying by removing barriers to trade. At the time of writing, it is clear that the markets are interested in REITs but across the fence there remains a view from those mid-cap firms that the costs of listing could present a real barrier.
The first way the Channel Islands can assist is though listing on the Channel Islands Stock Exchange (CISX). The CISX meets the criteria laid down by HMRC and is defined as a recognised exchange. A REIT must be listed on a recognised exchange which does not include AIM.
Membership of the CISX is diverse with sponsors from the larger legal firms and international banks to independent trust companies.
The key advantage is that listing costs for the CISX will be a fraction of those imposed by the larger exchanges. This will provide a competitive edge through reduction of the overall burden of fees although adviser and underwriting fees must be taken into account. These can be much less expensive where listing occurs on the CISX as a number of checklists are made available to minimise the paperwork all in a VAT and Stamp Duty free environment.
The Channel Islands, given the maturity of the fi nance industry with the expertise and experience of an appropriate service provider, can be immensely flexible in its approach both when dealing with the Exchange and when working with the client’s advisory team. This ‘can do’ attitude goes hand-in-hand with a track record of being able to provide structures which are more suitable for the private investor still interested in UK property as an asset class.
This is particularly relevant as a number of other mature REIT regimes, such as those operating within the US and Australia, permit private REITs. A number of our UK based colleagues believe there is a strong argument that the application of tax should not have regard to whether a business is either publicly or privately owned. If there is an argument, it would be more customary to remonstrate that if anything tax incentives are needed by those smaller private companies starting out, rather than the granting of favourable status to a listed company which has already demonstrated financial success in its field.
An innovative service provider will be able to discuss and provide services to address these options. These may include: REITs or other structures which can achieve many of the same tax advantages, but which have flexibility on (a) lending and (b) can reduce or remove conversion fees (which subsequently do not impose any shareholder retriction) be it REITs, private investor property funds, secondary listings on AIM or the use of other structures to mitigate and manage liquidity, the gain on development or stamp duty taxes and to ensure that the structuring is customised to suit the individual client rather that the client being shoe horned into a ‘one size fits all’ structure.
When working with an independent professional trust service provider it should be easily apparent that there is a combination of flexibility and willingness to provide the right structures which can react to the markets appetite. This will ensure that the Channel Islands can continue to deliver clients’ expectations and provide every competitive advantage.
Practically, the Islands also have long experience in dealing with UK property from the more mundane operation of the non-resident landlord scheme to complex financial structuring to stamp duty land tax mitigation. Given the Islands’ proximity to the UK and the wealth of expertise that can be called upon it is clear that the Channel Islands will be able to assist in the development of REITs as a cost-effective listed structure and provide alternatives to ensure that suitable structures are available to maximise and maintain strong growth in the UK property market.
Joanne Luce, Client Services Director, Walbrook, Jersey