The real estate industry was hoping for sops in the Budget. However, those hopes did not fructify with few references to the industry. There are only two changes that directly affected the real estate industry. The net effect could be negative in the short run, while being healthy in the long run.
First, there are tax clarifications for Real Estate Investment Trusts (REIT), which should considerably ease the prospects for raising money and listing these instruments. REITs are popular in many places. These are structured like mutual funds, except that they are focussed purely on real estate assets.
Some REITs look for capital gains by buying, developing and selling land. Other REITs generate rental income by building and leasing out assets. The sponsors (meaning the institutions or individuals floating the scheme) of REITs split them into units, which are sold to the general public. The REIT may then be listed and traded like a mutual fund or ETF. This allows individual and households to take exposure to real estate without the need to make a large, lumpy investment.
Therefore, REITs are an alternate financing route for the real estate industry, which can directly tap individual and household savings. That leads to lower costs for realtors, who must otherwise raise money at extremely high interest rates.
The Budget clarifies a couple of key points pertaining to tax treatment. There is pass-through status for rental income, which means that a REIT can pass on rental income to the unit-holders, who will be individually liable for the taxes they pay. This pass-through will make it easier for REITs to take over, or develop commercial property, and lease it out.
The sponsors of a REIT have to pay capital gains only at the point of time when they sell units at listing, much as in the case of a normal Initial Public Offer for shares.
Overseas institutions are quite used to REITs and they would look at both the REITs with income streams, and also at the potential for capital gains. Obviously, the rental yield is comparable to available interest rates and it can be assessed for risk, etc. The capital gains REITs would be riskier plays but they would capture rising land prices.
The second measure that directly impacts the real estate industry is the stipulation that real estate transactions cannot involve cash payments of above Rs 20,000. This is part of a whole series of new measures designed to curb the use of black money. There are multiple other measures in the Budget, which would also drive "black" out of circulation.
Unfortunately, real estate is the industry most obviously and directly fuelled by black money. In most parts of India, the "black" or cash component of a land deal amounts to a minimum of 25-30 per cent of the total price. Often it is as high as 50 per cent.
Cynically speaking, given endemic corruption across the real estate industry and in land registry departments, it is unlikely that the Rs 20,000 limit on cash will be enforceable in the long run. But this rule may mean that the cash component of most real estate deals will drop, at least until people find ways to safely get around the limits. On a short-term basis, this could mean the industry sees somewhat fewer transactions and probably, a moderating of prices.
The reaction to these developments have been negative so far. The CNX Realty Index has seen losses through the last month and also net losses post-Budget. The next positive signals could be rate cuts from the Reserve Bank of India, which fuel demand for mortgages, or a generalised pickup in activity.
The author is a technical and equity analyst
