NSDL or National Securities Depository Limited is a financial institution that was established to keep securities like shares, bonds, etc in the shape of non-physical or physical certifications, that is in demat format. The securities are maintained in deposit accounts, which are similar to funds in bank accounts. It allows for quick securities transfer because ownership gets transferred merely by ledger entries. This is frequently done digitally, saving the extra time required in the previous practice of exchanging physical certificates once a deal was concluded. India’s capital market, which has been around for almost a century, has always been quite active. But, due to settlements that are based on paper, it had significant flaws such as poor delivery, prolonged transference execution, and so on. To address these concerns, the Depositories Act 1996 was enacted and went into effect on Sept 20, 1995. This legislation mandated the Security Depositories establishment in India to manage securities. Security is a financial asset that…
Fractional Ownership & REITs: Questions Answered By A Professional Real Estate Lawyer
Understanding the basics of REITs and Fractional Ownership, and knowing the differences and their suitability is important before taking the final decision of investing.
One thing is certain: commercial real estate dominates the Indian investment market. There are two new-age investment formats — fractional property and REITs (Real Estate Investment Trusts) — that are ushering in this new era in India’s financial world. Fractional Ownership and Real Estate Investment Trusts are the emerging ways of investing in the real estate sector. No doubt people are already curious about trying out newly tech-enabled ways to optimize their real estate investments and particularly in the Commercial Property segment. However, many investors find REITs or Fractional Ownership investments a little overwhelming due to the sudden popularity they gained from a larger investor base. Understanding the basics of REITs and Fractional Ownership, and knowing the differences and their suitability is important before taking the final decision of investing. Hence, to add to your knowledge, we bring you a detailed comparison of both and outline which investment is suitable for your investing goals.
What is Fractional Ownership in Real Estate?
Fractional Ownership in its literal terms means part ownership in any asset. Just like owning a percentage of equity shares in a company makes you a part-owner, similarly, fractional ownership in real estate offers you to invest in shares of real estate properties making you the owner of the property limited to the money invested. Thus, gone are the days when owning a real estate property was a gigantic task of putting together a huge sum of money to purchase a commercial property.
Fractional ownership has opened up a smarter way of investing in commercial real estate for people having limited capital. Through fractional ownership, a special purpose vehicle is created where investors pool in their money which is allocated small ticket-sized shares. This pool of money is then invested to purchase a huge ticket-sized commercial property worth crores. The investor earns a regular share in rentals of the investment property as well as capital appreciation at the time of sale. Along with that, certain fractional ownership properties also allow you access to property usage rights.
What is a Real Estate Investment Trust (REIT)?
Real Estate Investment Trusts are companies that own and manage a wide range of commercial properties or even offer financing options at the early stages of the project. Investing in such REITs is facilitated through Mutual Funds which invest in such Real Estate Companies or Direct Investing on Stock Exchange. Thus, profits made by the company are transferred to the investors through dividends, and also the market price appreciation reflecting the worth of the company can reap substantial returns.
Recently, the Indian Financial Markets witnessed the listing of three REITs namely, Embassy Office Parks, Mindspace Business Parks, and the Brookfield India Real Estate Trust on the stock exchange. With their entry, the REITs space has garnered a lot of attention from retail investors too. This is evident due to the number of benefits that REITs provide. Investing in REITs allows you to invest in real estate indirectly. Thus, the hassles that come with an actual property investment get eliminated. Moreover, the add-on costs associated with the maintenance of the property are also saved. Thus, REITs are more convenient for people wanting to get real estate exposure with limited capital.
Now that we have a clear perspective on what Fractional Ownership and REITs entail, it’s time to dive deeper into their differentiating aspects and build a leaner view of both the investing options.
Fractional Ownership Vs REITs: The difference?
Type of Property
Fractional Ownership has no constraints on the type of property. Thus, investment can be done in both under construction as well as fully constructed properties.
According to SEBI guidelines, 80% of the investment should be in developed and income-generating properties. The rest can be invested in under-construction properties.
Choice of property
Fractional Ownership offers complete control to investors in choosing the property
REITs offer no control as the management decides in choosing the property after due diligence.
Fractional Ownership does not have any lock-in period. Investors can sell their stake in the property anytime.
REITs generally come with a constraint of market value fluctuations of the company. Investors can profit only when they sell at higher prices.
The rental earnings from the property are distributed through SPVs at regular intervals.
The earnings by the REITs are distributed to the investors in the form of dividends with a payout ratio of 90%.
Part-ownership in the property is acquired.
No ownership of the property is acquired.
The ownership of property is freely transferable.
No transferability due to no ownership of property.
Diversification of Portfolio
Investors can diversify their portfolios as per their will.
Investors’ money is invested in a set portfolio created by the company.
The entry cost can be comparatively higher than REITs
The entry cost is low as the company’s shares are listed on the stock exchange.
Requires continuous valuations at frequent intervals.
Requires complete valuation for at least twice a year.
Understanding the above differentiating factors is crucial in deciding the best type of investment for yourself. Both the investment options have their pluses and minuses. Optimizing them is essential for investors to reap higher profits. For that, we have curated 4 parameters you need to consider before zeroing in on the investment option. Following is the list of 4 parameters to analyze.
Parameters to check before investing in Fractional Ownership or REITs
- Capital Requirement
The first thing to know is your capacity to invest or the capital requirement for your investment. As we discussed above, fractional ownership requires a minimum amount of investment usually in the range of 10 to 25 Lakhs. However, the number changes based on the type of property and its worth.
For REITs, the initial capital to be invested depends on your ability. Even smaller investments are allowed for REITs.
- Time Horizon
Knowing the time horizon for the investment is a must. Though both the investment options don’t have a lock-in period, it must be considered that to earn decent returns the time horizon should be longer. For REITs, exiting the investment in the short term may not provide you with complete benefits. Similarly, a commercial fractional ownership property requires some initial years to stabilize the returns.
- The expectation of Returns
Generally, fractional ownership provides higher annual returns as compared to REITs. Moreover, REITs are subject to stock market fluctuations and thus offer a risk factor. Thus, from a volatility perspective, fractional ownership investments fare better due to the consistent distribution of rental cash flows.
- Expertise to monitor investments
If you possess the expertise to monitor your real estate investments, then fractional ownership is more suitable to you as it requires continuous valuations and due diligence from the investor. However, if you have very limited knowledge about managing real estate investments, then REITs are the right option for you as the REIT itself manages the whole portfolio and optimizes the returns for the investors.
The real estate sector is vast and understanding the same can be sometimes daunting. With this article, we hope you are better prepared for making the right decision between Fractional Ownership and REITs to make the best out of your real estate investment. Any investor needs to know the nitty-gritty of every investment avenue before taking the further step. Both Fractional Ownership and REITs offer a unique way of investing in real estate as compared to the traditional methods. Leveraging them will surely boost your investment graph and become a great value addition to your portfolio. And the most important thing, don’t miss is to check on the parameters before finalizing your investment. Enjoy the world of real estate and taste the returns it serves!
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Fractional Ownership & REITs FAQ'S:
Fractional Ownership in its literal terms means part ownership in any asset. On the other hand, investment in REITs is an investment in Real Estate Investment Trusts companies that own and manage a wide range of commercial properties or even offer financing options at the early stages of the project.
Fractional Ownership in its literal terms means part ownership in any asset. Just like owning a percentage of equity shares in a company makes you a part-owner, similarly, fractional ownership in real estate offers you to invest in shares of real estate properties making you the owner of the property limited to the money invested. The investor earns a regular share in rentals of the investment property as well as capital appreciation at the time of sale. Along with that, certain fractional ownership properties also allow you access to property usage rights.
According to the numbers of recent REITs, they have provided higher returns than private real estate investments. However, optimization of returns depends on multiple factors in private real estate investments like location, quality of tenants, economic conditions, and so on. Moreover, REITs entail the risk of market price fluctuation as they are listed on the stock exchange.
Fractional Ownership in its literal terms means part ownership in any asset. Through fractional ownership, a special purpose vehicle is created where investors pool in their money which is allocated small ticket-sized shares. This pool of money is then invested to purchase a huge ticket-sized commercial property worth crores.
No, fractional ownership properties are not any type of security as they cannot be traded in the secondary market.