Breaking New Ground: SEBI’s REIT Regulations and their Ripple Effects

Introduction

Real estate investment trusts (REITs) and infrastructure investment trusts (InvITs) are two efficient tools that help bring the commercial real estate and infrastructure investments closer to the public in India. These trusts enable people to practice ownership of assets without direct, massive capital investments. REITs and InvITs act as financial intermediaries accumulating funds from investors and managing income generating assets to create a mechanism for generating wealth, diversification and market liquidity in otherwise less liquid markets.

The economic liberalisation and urbanisation in the last few decades have given rise to greater need for new investment products in India. Securities and Exchange Board of India (SEBI) regulated REITs and InvITs have emerged as inevitable instruments for mobilising domestic and foreign investments for the real estate and infrastructure segments.¹ Nevertheless, the dynamic nature of the market requires constant changes in the regulatory framework to respond to new problems, improve public confidence in securities, and harmonise Indian practices with international ones. These needs are well understood by SEBI and thus a series of Amendments² have been made to open the market, enhance governance and protect investors. Some of these reforms include the features of small and medium REITs (SM REITs), the frameworks of subordinate units, and unit-based employee benefit schemes among others. All of these changes demonstrate SEBI’s anticipation of the requisite conditions for a vibrant investment climate. The changes are discussed critically in this paper, and the effects of the reforms on the different stakeholders and investment environment assessed. The analysis seeks to uncover the potential of SEBI’s initiatives and explore their future development by evaluating the strengths and weaknesses of the newly implemented regulations.

Background: The regulatory landscape before 2024

Prior to the changes, SEBI framed the REITs through the Securities and Exchange Board of India (Real Estate Investment Trusts) Regulations, 2014. This Regulation prescribed minimum capital control of INR 500 crores³, which made participation restricted to large scale commercial properties. For instance, through investments in REITs, investors could only participate with high value investment hence limiting the ability of the common retail investor. The absence of a clear legal framework for fractional ownership platforms (FOPs) gave rise to concerns regarding transparency and investor protection.

Key features of the pre-2024 regime included

(i) A minimum distribution requirement of 90% of net distributable cash flows to investors.

(ii) A focus on large-scale commercial properties, excluding small and medium projects.

(iii) Mandatory listing of REIT units on recognised stock exchanges.

(iv) Limited redress mechanisms for retail investors.

While these provisions ensured stability and promoted institutional participation, they were less conducive to fostering retail investment or supporting small and medium REITs (SM REITs).

Key amendments in the 2024 Regulations

The Securities and Exchange Board of India (Real Estate Investment Trusts) (Amendment) Regulations, 2024, introduced pivotal changes, aiming to democratise real estate investments and enhance regulatory oversight. The following are the most significant amendments:

1. Introduction of SM REITs

(i) The minimum asset value requirement for SM REITs has been reduced to INR 25 crores from the earlier threshold of INR 500 crores.⁴

(ii) SM REITs must have a minimum of 200 investors under Regulation 2(1)(zm)⁵ and comply with the same operational and governance standards as traditional REITs.

2. Enhanced grievance redress mechanisms

(i) Investors can now lodge complaints through the SCORES (SEBI Complaints Redress System) platform, providing a structured grievance resolution system.⁶

3. Fractional ownership regulation

(i) FOPs must register with SEBI and comply with transparency and operational standards, ensuring investor protection against fraudulent practices.

4. Subordinate units framework

(i) Provisions for issuing subordinate units with inferior voting rights to sponsors and associated parties were clarified, ensuring better alignment with investor interests.⁷

5. Operational reforms

(i) Reduction in fund distribution timelines to five working days.

(ii) Flexibility in convening unit holder meetings with shorter notice periods (subject to 95% consent) under Regulation 22.⁸

(iii) Mandatory listing of all REIT schemes on recognised exchanges.

Critical analysis

Accessibility and inclusivity

The change to the current requirement that SM REITs must maintain a minimum asset value is a revolutionary change as it opens the door for small projects and Tier II/Tier III cities to be a part of the REIT structure. This democratises the market, allowing retail investors to diversify their holdings with smaller investments. However, the lowered threshold is a problem that may lead to the acquisition of questionable quality and sustainable assets in SM REITs. The due diligence processes should however be very strict, and the audits conducted on the different projects that are included in SM REITs should be very thorough. Regulators must also set very clear parameters for defining and excluding inferior or risky properties. Further, this inclusion creates chances for the regional real estate markets to thrive. The cities that earlier could not attract much investment because of constrained FDI and other forms of investment can now get projects under the overarching structure of SM REIT. But this requires development capacity or strengthening programmes, for instance enhancing local management to address SEBI operational requirements. Further, this inclusion creates chances for the regional real estate to thrive.

Investor protection mechanisms

The compulsory registration of FOPs and improvement of grievance management facilities are the steps towards more protection of the retail investor. These measures make the parties responsible and help investors to have a clear framework of how to solve the conflict. But enforcement has a long way to go, as does compliance with the law in general. Therefore, SEBI must ensure that it is constantly on the lookout for compliance by having to use the advanced analytics to check on the practices of FOPs for any disparities or maladroit operations. Furthermore, SEBI can conduct frequency investor awareness programs to make the stakeholder aware of the outcomes as well as the advantages and disadvantages of such mechanisms. It can also help investors in case of conflict by providing a database of complaints and the ways they were resolved to pick the right actions to take. SEBI must also keep strict penalties for non-compliance to discourage cheating as a result of the stock market.

Operational efficiency

Decreasing the time of fund distribution and implementing the possibility of holding meetings with unitholders simplify the functioning and bring REITs closer to international practices. These actions enhance working capital and flexibility to both investors as well as managers. However, the compressed timelines might be problematic for smaller REITs who might need to invest a lot of capital in technology and human capital to execute projects on time. SEBI should consider providing financial incentives or even grants for the REITs willing to implement the modern technological systems for the distribution of their shares, as well as the real-time compliance check systems.

In addition, the high rate of operations could cause some pitfalls to occur due to poor management of operations. SEBI should ensure that it requires REITs, especially the small ones, to undertake annual audits of the operations of the business in order to check for operational hitches.⁹ Such reviews would help REITs achieve the right balance between business flexibility and compliance with the set legal requirements.

Subordinate units: A double-edged sword

The framework for subordinate units is creative as it offers freedom to subordinate units sponsors as well as protecting the interest of investors.¹⁰ However, the very nature of subordinate units such as inferior voting rights and conditional conversion triggers might mislead the retail investors. SEBI should require additional disclosures in simple language in order to enhance the investor’s comprehension of such instruments. Enhancing the transparency would require the introduction of standard templates for placement documents and the conductance of workshops for stakeholders on subordinate units. Thirdly, SEBI could have a unique grievance process for complaints relating to the subordinate units only; to avoid delayed resolution of complaints that stem from misunderstanding or disagreement.

Comparisons with global practices

The amendments reposition Indian REIT Regulations in line with global benchmark in terms of transparency and investor protection. For example, the benchmark of the US REIT market on diversity and Singapore on strong governance is used. Nevertheless, Indian situations like low levels of financial literacy and regional differences present peculiar difficulties that cannot be solved with the use of standard approaches. SEBI could consult with other global regulators to adapt their practices to the Indian market as it sought to adopt the best practices. This encompasses embracing technologies such as blockchain for transactional openness and intelligence to use AI in identifying emerging risks from market analysis.¹¹ Also, SEBI can form a global panel of advisors who can periodically compare the current Indian REIT Regulations with the best practices existing in different States and suggest changes.

Challenges and recommendations

1. Regulatory overlap

While SEBI Regulations are in place there are possibilities of overlap with the Real Estate (Regulation and Development) Act, 2016¹². In most cases the roles and responsibilities of a given organisation should be clearly defined thus eliminating overlapping of authority. To remove duplication and bring about harmonious legal framework in relation to real estate investments, SEBI should set up inter-agency task forces.

2. Cost of compliance

The improvements in the operational and governance standards may lead to higher expenses for REIT managers especially for SM REITs. SEBI should also think about offering incentives or subsidies for the smaller ones in the market. Possible solutions to this problem include providing simpler modules for SM REITs on matters of compliance, such as automated reporting. SEBI may also exempt some fees for new SM REITs during their first years of commencement.

3. Investor education

Retail participation can only work well with the enhancement of the financial literacy levels among the populace. SEBI and REIT managers should spend money on increasing awareness about REITs and related risks. Organisations could use engagements such as partnerships with educational facilities, using media publicity, and hosting engaging webinars to engage investors. SEBI could also create mobile applications that would deliver updates and frequently asked questions about REITs in real time.

4. Technology adoption

Digital solutions can help make compliance easier, increase transparency and make investors’ journey better. SEBI should promote the use of such technologies in the entire REIT chain. Smart contracts in relation to real estate could improve trust, provide for accurate and secure storage of data and minimise fraud within the industry. SEBI might encourage the implementation of the blockchain by REITs by providing recognition or other privileges.¹³

5. Balancing inclusivity and quality

That is why the reduction of the thresholds for SM REITs is justified by the need to increase the number of participants, the presence of which threatens to reduce the quality of assets. Thus, SEBI has to develop effective screening mechanism to ensure that only good quality assets are incorporated. Third-party audits could be put into practice, and the rating systems should be also introduced for REITs to improve the quality assurance. SEBI could also compile a list of assets under its observation for poor performance to any investor willing to invest in such assets.

6. Fostering a collaborative ecosystem

This means that good cooperation between REIT managers, investors, and the regulatory authorities can go a long way in the enhancement of innovation, as well as the success of the various regulatory measures. SEBI could possibly form industry working groups to address new issues as they are seen by the members of the business community. Perhaps, daily or weekly meetings or conferences might allow stakeholders to discuss the information and report on the changes needed to make the regulation more efficient.

Conclusion

The recent changes that SEBI has made are a positive change which can be seen as a step towards building the modern form of the REIT/InvIT market. These changes are intended to strengthen the future growth in the investment in real estate in India with reference to the three aspects including accessibility, governance, and investor protection. Capacity building by providing training and resources for investment managers to navigate the complexities of REIT Regulations and promoting financial literacy by educating retail investors about the benefits and risks of investing in business trusts can be instrumental in developing the real estate and infrastructure ecosystem in India. If SEBI can address these challenges, then it can further entrench its position as the trailblazer for change in this industry.