Types of Property Funds

Question 1

Who creates sector classifications for UK authorised property unit trusts, PAIFs and ETFs?

Answer 1

The Investment Association (IA)

Question 2

What is UK Direct Property?

Answer 2

A fund that invests at least 70% of their assets directly in UK property.

This is an average over five year rolling periods.

Question 3

What can cause a UK direct property fund to be removed from the sector?

Answer 3

<70% for 12 months
<60% in any month

Question 4

What are the conditions to be classified as “Property Other”

Answer 4

70% invested in property but do not meet requirements for UK Direct.

e.g. <60% in a month

Question 5

Property Unit Trusts can be either:

Answer 5

Authorised or Unauthorised

Similar to property mutual funds in other countries

Question 6

What is the difference between an authorised and unauthorised property unit trust?

Answer 6

1) Authorised Designed for Retail Clients
2) Unauthorised designed for institutional investors only
3) Authorised get tax exemption

Question 7

How are authorised property unit trusts taxed?

Answer 7

1) No CGT on capital gains
2) 20% tax on income (special rate of corporatino tax for Unit Trusts and OEICs)

Question 8

What do offshore property unit trusts offer?

Answer 8

Greater flexibility

Tax effective for a greater range of investors.

No income / CGT - investor is taxed at their own nominal rates.

Question 9

What is a Property Authorised Investment Fund (PAIF)

Answer 9

An open ended fund which invests in property

Many open ended property funds converted to PAIFs due to the tax efficient nature

Question 10

What four conditions must be met to qualify as a PAIF?

Answer 10

1) Split income streams in three
2) Prevent corporate ownerership exceeding 10%
3) Must generate revenue through rental income
4) Must be structured as an OEIC

They must also notify HMRC they wish the PAIF regime to apply to the fund.

Question 11

What is the tax treatment of a PAIF?

Answer 11

Property Investment Income = Exempt
Capital gains = Exempt
(withholding tax of 20% on income distribution)

Excessive debt or distributions to companies owning >10% of NAV incurs a special UK tax charge.

Question 12

Why do PAIFs often have feeder funds?

Answer 12

To accomodate investors who cannot receive coupons gross.

Question 13

What are the three income streams for a PAIF?

Answer 13

1) Property Income (e.g. rental income)
2) Interest Income (e.g. interest earned on property bonds or cash deposits)
3) Other income (e.g. any dividends)

Question 14

What are the benefit of real estate ETFs?

Answer 14

1) No risk of manager selection
2) Liquidity (trade on stock exchanges)
3) Diversification
4) Invest in particular regions

Question 15

What is a drawback of real estate ETFs?

Answer 15

1) No benefit of investmet funds (e.g out performance)

Question 16

What are the two major indices which are tracked by ETFs?

Answer 16

1) NAREIT (national association of real estate investment trusts)
2) EPRA (European public real estate)

Question 17

How does a REIT differ from other quoted propery companies?

Answer 17

No tax is incurred on income or gains.

Instead a tax liability arises on the shareholder at their nominal rate.

CGT may therefore arise or any CGT losses can be offset or carried forward

Question 18

How much of a REITs taxable income has to be distributed each year to avoid CGT arising?

Answer 18

90% (to shareholders as dividends)

Question 19

REITs are listed on the stock exchange. What is the major benefit of this.

And how does this contribute to the pricing?

Answer 19

The major benefit is the liquid nature of the shares making them easy to buy and sell.

Price is determined by supply / demand as opposed to the valuation of the underlyin.

As such REITs can trade at a premium or discount to their NAV.

Question 20

In March 2023 the UK govt reformed tax rules regarding REITs what were the two changes.

What was the hoped outcome

Answer 20

1) Valuation for “recently signifcantly developed” properties will reflect value increases
2) Tax deductions from income changed

Wided scope of businesses able to operate as a REIT

Question 21

What is a limited partnership (in regards to property investment)

Answer 21

• Unlisted Property Investment Vehicle
• General partner established investment (has unlimited liability)
• There are a number of limited partners (limited liability)

Question 22

What are the key features of a limited partnership

Answer 22

1) Tax transparent (partners pay tax on gains and income)
2) Pre-determined investment life (assets disposed at end - unless partners vote to extend)
3) Majority are based in Jersey and Geurnsey
4) Limited partners cannot be involved in the decision making process (will lose limited liability)

Question 23

There are 4 major factors that should considered when investing in property, what are they?

Answer 23

1) Potential property asset bubbles (e.g. Covid and GFC)
2) Liqiduity of listed vs investment funds
3) Level of gearing permitted (core, core plus & value add)
4) Redemption fees and notice periods (e.g. LTAFs 180 days)

Question 24

What examples are there of property being affected by cyclicality / asset bubbles?

Answer 24

1) GFC
2) COVID
3) China debt crisis
4) American - high rates / long mortgages