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Hong Kong Relaxes Restrictions For REITs

Monday, September 1, 2014

The Securities and Futures Commission (SFC) has announced that Hong Kong's revised Code on Real Estate Investment Trusts (REITs) was gazetted on August 29, 2014, taking immediate effect.

Since the first REIT was listed in 2005, Hong Kong's REIT portfolios have been widened to offer investors a diverse choice, from retail properties to commercial and hotel properties, and to properties in Mainland China.

Further permission has now been introduced for REITs to invest in properties under development or engage in property development activities; and to purchase financial instruments (including listed securities, unlisted debt securities, government and other public securities, and local or overseas property funds), subject to at least 75 percent of the gross asset value (GAV) of a REIT being invested in real estate that generates recurrent rental income at all times.

In addition, restrictions have been introduced to ensure transparency in a REIT's activities. These restrictions include maximum thresholds on investments (such as a limit on property development investments of up to ten percent of a REIT's GAV), a minimum holding period of two years after completion of the property development, a restriction on investment in vacant land, and new disclosure and reporting requirements.

It was said that, in finalizing the proposed amendments to the REIT Code, the SFC has been mindful of the need to strike a balance between facilitating market development and competitiveness on the one hand, and ensuring the protection of investors' interests on the other.

The SFC said the revised Code will facilitate the long-term growth of Hong Kong's REIT market, and said Hong Kong's regime is broadly in line with regulations in comparable international markets.

The SFC is also thought to also be giving consideration to putting forward proposals to alter the tax regime for Hong Kong REITS (H-REITS).

An earlier report from the Financial Services Development Council warned: "From the lack of tax incentives, to investment restrictions and takeover hurdles, H-REITs are facing a much tougher operating environment than regional markets, such as Singapore and Malaysia, which are more pro-active in growing their REIT markets by addressing issuer and sponsor concerns and facilitating market reforms."

Usually, in other jurisdictions, as long as a REIT satisfies the requirement to distribute most of its income to unit-holders, it is not subject to income tax at the trust level. Currently, H-REITs have to pay 16.5 percent corporate tax on their profits, despite the REIT Code requirement to distribute 90 percent of their after-tax income.

In the conclusion of its report, the Council recommended the removal of profits tax on REITs. However, the SFC said in response that, while such removal could be expected to be beneficial to Hong Kong REITs, it should be noted that currently – unlike other jurisdictions – no tax is levied at individual unit-holder level on dividends or capital gains in Hong Kong. "Therefore, a removal of profits tax could result in Hong Kong REITs becoming completely tax-free," the SFC said. "Whether this would resonate well within Hong Kong's overall tax structure is of course a matter of government tax policy," it concluded.

Nevertheless, the SFC confirmed that it received comments regarding the tax treatment of REITs during its consultation on the new code, and the matter of tax is expected to be the next item on the agenda in Hong Kong's efforts to improve its REITs offering.

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