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Protection of the REIT Investor

(Article published in the Jun 16, 2010 issue of Manila Standard Today)   

 For the target market to even be willing to try the new mode of owning real estate being introduced by the Real Estate Investment Trust (REIT) Act of 2009, it was essential to have in place adequate provisions protecting the investor and safeguarding his interest from others’ greed.   R.A. No. 9856 and SEC’s implementing regulations did not disappoint.

 Independence is a principal requirement of the major pillars of an REIT’s operations.   Making explicit what is implied in their respective definitions in the law, the IRR provides that the Fund Manager, the Property Manager, and the Property Valuer are to be “independent of the REIT, its promoters or sponsors.” 

 Transparency, through full and timely disclosure, is a recurring theme.  As a general rule, the REIT must “comply with the reportorial and disclosure requirements prescribed by the Corporation Code, the Securities Regulation Code and the stock exchange.  Thus, the REIT is to disclose all material contracts, such as, but not limited to, those whose amounts involve more than 5% of the REIT’s assets, those not in its ordinary course of business, related party transactions, and contracts with its Fund Manager, Property Manager. 


 Contracts, in their original form or as amended, between the REIT and related parties, such as with the REIT’s director, officer or principal stockholder, or their associate; their sponsor or promoter, and any of the REIT’s fund manager, adviser, or property manager, must be disclosed in a full, fair, timely and accurate manner. 

 The Fit and Proper Rule, which debuted in a big way in the major reform of the banking industry brought about by the new Central Bank Act and the General Banking Law, is also a qualificatory requirement for individuals serving as directors of the REIT, of its fund managers, property managers, distributors and other REIT participants.

 This rule takes into account the individual’s integrity, experience, education, training and competence.  It also excludes, among others, a person who has been convicted of a crime involving any security or financial product, or involving fraud or embezzlement, theft, estate or other fraudulent acts or transactions. 

 Also barred by the Fit and Proper Rule are those who have been enjoined by order, judgment or decree of any court, quasi-judicial body or administrative agency from acting as a director, officer, employee, consultant or agent occupying any fiduciary position.  In like manner, those who have been found by the relevant regulatory agency to have violated, or aided, abetted, counseled, commanded, induced or procured the violation of the REIT law, the Corporation Code, the General Banking Law, the Insurance Code, the Securities Regulation Code or any related laws and any rules, regulations or orders thereunder.

 In addition to these prudential standards, the R.A. No. 9856 also gives the investor other assurances specific to their placement, or deposit (understood in the broad sense), with the REIT.  Because it is conceived as a mass market product, the REIT must be a public company.  This means that it must be listed and continue to be listed, with an authorized stock exchange, e.g. the PSE, and, after such a listing, have at least 1,000 public shareholders (i.e. those who are not its sponsor or promoter, or their related interests) each one owning at least 50 shares of any class of shares and in the aggregate owning at least 1/3 of the REIT’s outstanding capital stock.  The paid-up capital of the REIT must be at least Php 300,000,000.00.

The investor is also protected by what is known in the industry as “portfolio-shaping rules” that list the areas of allowable investments, such as real estate here and abroad (the latter to the extent of only 40% of the deposited property), limit the amount of investment in certain specific products like “synthetic investment products” (not more than 5%), mandate placement of at least 75% in income-producing real estate, and prohibit undertaking property development activities and investing in unlisted property development companies.

 Moreover, REITs cannot invest more than 15% of their investible funds in any one issuer’s securities or any one managed fund (except in government securities funds where the limit is raised to 20%).  For risk-diversification, REITs may invest in foreign real estate.  But before doing so, it must ensure that the investment complies with all the applicable laws and requirements in the foreign country where the foreign asset is located.  A major concern in this aspect is the host country’s foreign ownership restrictions, if any, and its requisites of having good and valid title to the said foreign real estate asset.

 REITs may go into joint ventures with other entities by acquiring shares or interests in an unlisted special purpose vehicle formed specifically to hold or own the real estate.  However, it is a requirement that the REIT have the right to dispose of such investment, that the constitutive documents provide for a minimum percentage of distributable profits, and, most important, that it has veto rights over key operational issues of the special purpose vehicle.

 Finally, the law moderates the appetite for leverage transactions.  Thus, the total borrowings and deferred payments of a REIT cannot exceed 35% of the deposited property.  This percentage is raised to 70% if the REIT has a publicly disclosed investment grade rating by a duly accredited or international recognized rating agency.

 The REIT is admittedly, in the Philippines, a new way of owning real estate.  Though already established elsewhere, particularly in the developed jurisdictions, the REIT is unfamiliar to most of us.  It thus cannot afford to fail; and this explains the many risk-control provisions in the law.  We who are to be benefit from it need to patiently endure its inevitable growing pains.