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REITs could help Irish markets to recover stability

A real estate investment trust, or REIT, could play a key role in helping to relieve stresses on both the Irish commercial and residential markets. However the Government would need to change the law to make it happen.

Where allowed REITs can invest in apartment blocks and property debt such as mortgages, as well as a combination of both.

Individual investors can purchase shares in a REIT and receive dividends and capital returns, similar to equities, enabling REITs to tackle two of the most common barriers to property investment: indivisibility and high transaction costs. Thus REITS provide a liquid and transparent property asset.

Recently, in the US The Empire State Building entered a REIT to improve its investment efficiency -- allowing investors to own shares.

These trusts also help work out distressed property assets while recapitalising and providing liquidity to a lingering property market. The development of REITs in early 1990s Asia encouraged more stable and liquid markets leaving them well placed following the post-2008 crisis.

This was at a time when most investors were running scared of real estate, but the trusts were used in both Japan and Korea as they were considered a well-priced and transparent asset compared to the direct sector.

Their experiences provide valuable lessons for Ireland. The goal of the National Asset Management Agency (NAMA) is to maximise return for the Exchequer and minimise the impact of holding and selling such a large quantity of real estate.

This cannot be achieved through normal property asset management procedures.

NAMA is believed to prefer the option of Qualified Investor Funds (QIF) rather than REITs. However, international precedence would suggest that REITs are better and may also generate tax benefits.

QIFs have an effective total tax holiday of up to seven years but REITs will be taxed from the outset via income received from dividends at normal income tax rates.

After Japan introduced REITs the market showed signs of recovery as real estate developers could bypass the banks and use REITs to fund projects.

In South Korea, property values slumped following a foreign exchange crisis in 1997 as investors and banks sold off real estate assets to cover debts. Korean REITs were used to remove property liabilities from bank balance sheets and provide liquidity to the property market.

Since 2001, there have been three REIT structures in South Korea, one of which -- the CR-REIT -- distributes in excess of 90pc of its profits to shareholders, employs no internal staff and is managed by a specialist company.

CR-REITs were closed-ended, finite, passively managed vehicles with public offerings aimed at international institutional investors.

They had two sources of income: rents paid through dividends and the capital gain distributed when the REIT had run its course.

Annual dividend yields averaged around 9pc during the period from 2001 to 2008.

This type of REIT could easily be utilised by NAMA. Initial analysis has shown a sample Irish REIT comprising select NAMA assets could provide an average annual dividend yield of over 7pc in 10-years. Returns of this level would attract foreign and institutional investors.

Some Japanese banks also established REITs to which they transferred suitable distressed property and then divested their interest in a REIT over a period of time.

Separately, some specialist firms became REITs and used their expertise to maximise returns.

Within three years, REITs helped to stabilise and reinvigorate Asian property markets by providing easy access to investment with low costs, high levels of transparency and accurate pricing.

The lessons from the Japanese and Korean REITs are valuable to Irish policymakers in gauging what can be achieved.

The resurrection of the property market is a primary condition for Ireland's sustained economic recovery.

Quick disposals of NAMA's property assets through fire-sales would have a detrimental effect on the wider market, property values and thus the Exchequer.

Consequently, new avenues must be explored and a NAMA REIT is one option. The Government needs to introduce REITs legislation, not alone to help the market but to help overcome the lack of credit in the banking system as well.

Colm Lauder is a research and performance analyst at the IPD

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