Fractional real estate platforms: SEBI nudge in the REIT direction

Fractional realty Ownership Platforms (FOPs), over the past few years, have been able to attract thousands of non-institutional investors with action in fraction. They offered opportunities to invest in buildings and office spaces by splitting the cost of acquisition among many who, in turn, invest in unlisted securities issued by a Special Purpose Vehicle (SPV). But the risks were aplenty — ambiguous or absent regulation, lack of uniformity in disclosures, prevalence of unlisted securities, paucity of independent valuation and no common approach for investor grievance handling. Hence, SEBI’s recent nudge to FOPs to go the REIT way ensures greater transparency and investor protection. Here is a lowdown.

Regulatory shield

In the second week of May, SEBI had released a consultation paper on the proposals for regulating platforms offering fractional ownership of real estate assets. The final contours of the regulations are awaited.

In the consultation paper, SEBI has proposed to bring FOPs under regulatory ambit/regulatory perimeter by introducing a chapter under REIT (Real Estate Investment Trust) Regulations and labelling these as Micro, Small and Medium (MSM) REITs. Some FOPs may have registered themselves as ‘real estate agents’ under the provisions of the State-level Real Estate (Regulation and Development) Act, 2016 (RERA) etc. However, all FOPs did not actually follow this practice as there were grey areas. Some even reasoned they were under MCA purview as SPVs purchased the real estate asset.

There was also a false sense of comfort for investors of their fractional investment in real estate on an FOP being regulated. Thus, there was great ambiguity whether the complete set of activities undertaken by FOPs fall under any regulatory ambit. With MSM REIT structure, investors will get full regulatory shield of SEBI. Investors can be assured of regulatory oversight, common uniform standard disclosure practices, ensuring liquidity by way of listing or similar such measure and investor redressal mechanism, etc. to safeguard the interest of investors. In case of any infirmity or mis-selling, investors will have recourse to legal remedies.

MSM REITs will be subjected to regulatory inspection and oversight, providing more confidence to investors and hence, will have the potential to attract more investors. The framework has also set a minimum investment size of ₹10 lakh, ensuring a wider base of investors can participate. Many FOPs now have minimum ₹25-lakh ticket size.

REIT advantages

The mode, manner and sanctity of transactions executed on the FOPs have been a cause of concern for many reasons. One, FOPs are used by many non-institutional investors i.e. retail investors. Two, real estate transactions, with accompanying issuance of securities or as joint ownership of the real estate, is a route untested largely among a large of number of unconnected investors. With the MSM REIT structure, the mode and manner of completion of the purchase/acquisition of the real estate and of issuance of the securities or confirmations will be explicit in nature. Furthermore, they will also be subject to independent review or oversight.

By becoming a REIT, fractional realty ownership platforms will have to follow uniformity of disclosures regarding the valuation of the real estate, disclosures made to the investors, property title diligence and property title documentation, lease, rental or tenancy documents and terms arrived at with the lessees/renters/tenants. Even continuing disclosures, potential offers for purchase of property by third parties, status of lease renewals, etc. will have to be standardised. The schemes of MSM REIT will not be allowed to invest in under-construction or non-rent generating real estate properties, which is a positive, and de-risks the route.

Importantly, the practice of giving investors unlisted shares in SPV is problematic during exit or liquidation of such fractional investment. The investor was dependent upon the FOP for necessary information to aid diligence by potential purchaser or in identifying potential purchasers and in effecting transfers. Under REIT structure, such undue dependency on the FOP for exit, due valuations, liquidity or transparency would not be there.

The listing of units of the MSM REIT scheme will be mandatory and listed on stock exchange. The units of such MSM REIT scheme will be held in demat form. The listing of units and trading through exchanges will provide robust risk management framework and surveillance mechanism, fair and transparent pricing, guaranteed settlement, etc.

Financial strength

Various web-based FOPs today manage hundreds of crores of assets, but were not subject to any eligibility or financial wherewithal norms. Assets under management, as per the SEBI consultation paper, of players such as Prop Share (₹960 crore), Strataprop ( ₹704 crore), Myre Capital (₹227 crore), Assetmonk ( ₹217 crore) and hBits (₹138 crore), show the significance. This virtually opened the way for any player with tech know-how to float an FOP. The net worth and deposit requirements now prescribed for MSM REIT sponsor and investment anager will ensure only serious platforms survive and thrive.

With MSM REIT structure, there will be different parties such as trustee, sponsor and investment manager, with each being a separate and distinct entity with specific eligibility as well as duties to perform. In current FOP system, some players are operated by real estate agents or brokers (before the property is purchased) and as property managers thereafter.

Importantly, the sponsor will be required to hold a minimum of 15 per cent of the total units of the MSM REIT for each scheme for a period of at least three years from the date of listing of such units of such scheme pursuant to initial offer on a post-issue basis. The sponsor needs to have a net worth of at least ₹20 crore and out of the same, an amount of₹10 crore shall be in the form of positive liquid net worth. The investment manager of MSM REIT also needs to have a net worth of at least ₹10 crore and net worth has to be in the form of positive liquid net worth. While some FOPs complain that financial requirements are onerous, SEBI’s norms ensure that such platforms are of sound and stable financial health.

Thumbs up

To usher in fair and transparent pricing

Mandates uniform disclosures, independent valuation

Listing of units provides better liquidity for exits

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