China's tax policy holding back reit growth

The mainland must streamline its tax regime for publicly traded real estate investment trusts (reits) for them to gradually take off despite near-term unfavourable conditions, industry experts said.

Beijing now lags behind New Delhi in finalising a regulatory framework for such listed entities that mainly invest in income-producing real estate assets.

Globally, reits exist in more than 30 countries, led by the United States, and raised more than US$20 billion last year.

For emerging powerhouses like China and India, tax policy remains a key issue as it will determine the pace of growth and eventual size of the new markets.

"China's real estate [sector] is quite heavily taxed and it is a key component of local and state revenue," said John Timpany, a tax partner at KPMG in Hong Kong.

"To make [reits] successful, the tax system needs to be simple and clear to investors," he told the South China Morning Post. Another KPMG tax partner, Christopher Xing, said publicly traded reits need to be at least tax neutral, and sweeteners could include additional tax credits or exemptions on spinning off real estate assets to reits.

Mainland property companies pay land appreciation tax on taxable gains of 30 to 60 per cent, corporate income tax of 25 per cent, and other taxes on rental incomes including business tax of 5 per cent, real estate withholding tax of 12 per cent and stamp duty of 0.1 per cent.

Corporate investors do not have to pay tax on dividends, but need to pay 25 per cent capital gains tax after selling their stake. Retail investors typically pay additional income tax on dividends and capital gains.

Heavy taxes and high funding costs squeeze the investment yield of mainland properties, be it residential, retail or in the office sector.

"The Chinese government needs to put together a proper regime for pass-through taxes," said John White, a managing director of global real estate fund manager Heitman.

That is a key element making reits more successful in the US and Singapore than other markets, including Hong Kong.

For example, foreign-sourced dividend income received by a reit listed in Singapore may be exempt from tax as long as it meets certain conditions.

For emerging markets like China, real estate investors are now mainly betting on capital gains rather than stable rental income. To curb speculation, mainland policymakers have rolled out a slew of measures in the past decade, only relaxing them when needed to support the broader economy.

China has long planned to start a reit market as a way to encourage long-term investment in the once sizzling real estate market that is now mired in a glut.

The central bank renewed the call in September after the authorities in April allowed Citic Securities to sell a private reit to institutional investors, with two office buildings as underlying assets.

But Xing said there were gaps between regulatory goals and reality. "What needs to happen is a series of complementary and consistent regulatory tax-supporting framework that allows a reit to take form in a clearly definable way for market participants," he added.