It is easy to forget that long before the boom in offshore property investment structures caused by seeding relief for stamp duty land tax, Jersey and Guernsey property unit trusts, often referred to as Jersey property unit trusts (JPUTs) and Guernsey property unit trusts (GPUTs), had been in steady use as tax-efficient property investment fund vehicles for many years.
The Henderson UK Property Fund and the Deutsche RREEF UK property funds, for example, were established as open-ended property unit trusts in Jersey in the early 1990s and Schroders have had JPUTs since the late 1990s. And although the unit trust has recently been the vehicle of choice, offshore property investment companies and limited partnerships have also been used and continue to attract the interest of investors and fund managers.
Just as much as the fiscal advantages, it has been the strong legal and regulatory framework and the depth and breadth of experience in fund administration that have attracted property funds to Jersey and Guernsey.
The proposed introduction of the UK real estate investment trust (Reit) appears to threaten to bring an end to the offshore market by offering the UK property market an investment vehicle which allows free marketability, tax treatment in the UK equivalent to direct investment and availability to retail as well as institutional investors.
Will Reits affect the offshore fund industry?
The market is already seeing signs that the UK Reit is not the answer to every need. Even in its ‘refined’ form following the announcements in the recent Budget, there are situations where a Reit will not work for certain investors and investing through offshore structures will continue to be attractive.
For example, for joint ventures or clubs of institutional investors who do not have an interest in a listing, and for those for whom enhanced liquidity from a listing is not a key factor, the requirement that a Reit be a listed UK resident company will make it less attractive than some of the offshore alternatives. There is no requirement for offshore vehicles in Jersey and Guernsey to be listed.
For companies with large controlling stakes, the Reit will be of limited appeal given the tax charge that will be levied on the Reit if it makes a distribution to a shareholder holding an interest of 10 per cent or more. Generally, we anticipate that offshore structures will offer a number of savings over the Reit, with no equivalent to the entry or conversion charges and lower expected establishment costs.
It is also expected that the flexibility of the regulatory infrastructure in Jersey and Guernsey will continue to attract property investment. The legislation provides appropriate investor protection, while retaining the flexibility to adapt quickly to changing market conditions. Funds in Jersey and Guernsey are regulated appropriately to the nature of the particular fund. The more a fund is targeted towards institutional or experienced individual investors, the more flexible the Financial Services Commissions in Jersey and Guernsey can be in their regulatory requirements, relying instead on adequate disclosure.
The impact on existing JPUTs and GPUTs
It is not expected that many existing JPUTs and GPUTs will be converted to Reits given the likelihood that the 2 per cent conversion charge would apply. There is currently no roll-over mechanism and investors in offshore structures would all have to agree to swap their existing investments for shares in the Reit. It seems likely that even if a UK property company decides to convert to a Reit, it will keep any investments already in JPUTs or GPUTs in this form in view of the continuing ability to deal in the units free of UK stamp duties.
One trend we expect to see, in the pursuit of greater liquidity, is an increase in listings of property vehicles offshore. Any listed vehicle (including those established in Jersey and Guernsey) has an advantage over unlisted vehicles in terms of the liquidity of units or shares and the ability to deal in small lots at speed with low transaction costs. So although offshore vehicles in Jersey and Guernsey do not need to be listed, we expect that increasing numbers will be, including on AIM and the Channel Islands Stock Exchange (CISX). And as the CISX offers advantages over the London Stock Exchange, in terms of flexibility, timing and cost, we also anticipate listings of Reits on the CISX.
Secondary dealing in closed-ended unlisted offshore vehicles currently presents a challenge to investors, but there is at least one example of a fund offering investors a service which is intended to improve the liquidity and speed of dealing in its units and it may be that other offshore funds follow suit. Morley Fund Management has unveiled a UK “trading facility” for its own unlisted real estate funds.
Known as T-Plus, it is a venture involving Morley, real estate firm DTZ and brokerage firm Cazenove. Initially it will only trade Morley’s Mall Fund, which is a unit trust expert fund established in Jersey investing in The Mall Limited Partnership. Morley anticipates increased transaction speed and liquidity in non-listed funds.
At a recent Global Reits conference in London, a discussion panel debated: “Which model will become the industry’s vehicle of choice post-UK Reit introduction?” At the beginning and end of the discussion the audience was asked for a show of hands as to whether they thought the Reit would be the industry’s vehicle of choice. Sentiment appeared evenly balanced before and after the discussion.
Mike Clarke of Schroders, a panellist at the conference, said: “While the Reit proposals are welcomed as an alternative investment vehicle we do not anticipate the established institutional investors in JPUTs switching their allegiances. The majority of these are seeking diversification from the equity markets and the short-term volatility in values that occur.”
It seems that the offshore market will continue to thrive. While the UK Reit provides an alternative investment vehicle for retail investors, it does not cater for all the property industry’s requirements.
The offshore regulatory environment and the skill base remain attractive, while new ideas, including mechanisms for secondary trading, are keeping the market vibrant. For institutional investors offshore structures are likely to remain the first choice. The Reit certainly doesn’t have all the answers. n
Michaela Hamilton is a partner at Mourant du Feu & Jeune