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Point of Law

Francisco Ed. Lim

Asean integration and REITs

Francisco Ed. Lim

September 22, 2014

In 2009, our Congress passed into law the Real Investment Trust Act (Reita). The law was envisioned to put in place in the Philippines the REIT system, which is an investment scheme that was intended to democratize wealth by enabling the investing public to share in the returns of income-generating real estate presently owned by the few.

Because of its attractiveness to investors, this investment product has proven to be effective in unlocking real estate values and mobilizing capital.

It has significantly contributed to the development of the capital markets of the countries in which they were introduced.

As then president of the Philippine Stock Exchange (PSE), I pushed hard for the passage of the law to develop our capital markets and help prepare it for regional competition. At the time, the Asean economic integration was only about eight years away.

The Reita was deliberately envisioned to be more attractive than its Asian counterparts because the Philippines was playing “catchup” with the rest of the world. If my recollection is correct, at the time that the law was being deliberated in Congress in 2008, the global REIT market was worth about $700 million while Asian REIT was at about $60 million.

Unfortunately, more than five years after the passage of the Reita, the Philippine REIT industry has still to see the light of day. There are no takers from the real estate industry. In the meanwhile, as of July 2014, the market size of the REIT industry has increased to $1.4 trillion globally. In Asia, it has grown into a $605 billion industry.

Unfortunately, after almost five years from the enactment of the Reita, the Philippines still has zero share in this huge global industry.

The reason is simple. Despite the national policy on the matter laid down by Congress through the enactment of the law, the Executive Branch has prescribed some pills which have succeeded in aborting the birth of the Philippine REIT market.

First, the Bureau of Internal Revenue (BIR) imposed value added taxes on the transfer of real estate from property owners to the REIT despite the tax-free transfers authorized by the Tax Code. Historically, before Revenue Regulation No. 013-2011, these transfers have been VAT-exempt. The new regulation means an additional cost of 12 percent for property owners who want to corporatize their income-generating assets into a REIT.

Second, the Securities and Exchange Commission (SEC) drastically increased the minimum public ownership (MPO) of REITs from 33 percent under the Reita to as high as 67 percent in the third year after the listing of the REIT. This is way well beyond the contemplation of the Reita.

Third, the BIR has required the escrow of an amount equivalent to what should have been paid by the REIT as income tax had dividends not been deducted from its taxable income. This is to guarantee compliance with the 67 percent MPO requirement despite the fact that the REIT is compliant with the MPO rule in the first two years of its existence.

Meanwhile, other Asian countries have been improving their regulatory environment to make it conducive to the full development of their REIT markets. Recent examples are Indonesia, Malaysia, Thailand, Hong Kong and India. Even Singapore, which has a world-class REIT system and one of the biggest REIT markets globally, is constantly looking for ways at improving the attractiveness of its REIT market.

As shown above, the Philippines has gone the opposite direction since 2011.

There appears to be some hope, though. The SEC and PSE have made public pronouncements on the need to speed up reforms in our capital markets to help prepare the country for the Asean economic integration. The SEC has publicly expressed its willingness to lower the MPO requirement for REITs.

The nagging question is: Are these just motherhood statements? Will the SEC back up its statements with concrete steps like fixing the MPO requirement at a level acceptable to the industry and convincing the BIR to lift the value added tax on the transfer of the property from the sponsor to the REIT?

Well, it is for the SEC, which is mandated by law to develop our capital markets, to lead the way. A sooner-than-expected change in the MPO requirement will be a good start for the SEC. It will send a powerful message to the markets.

The author is a senior partner of the Angara Abello Concepcion Regala & Cruz Law Offices (Accralaw) and is a law professor in the Ateneo Law School. The views in this column are exclusively his, and should not be attributed in any way to the institutions with which he is currently affiliated. He may be contacted through francis.ed.lim@gmail.com.