How have real estate investment funds in Russia changed after the reforms?

Investing in real estate

Investing in real estate has long established itself as one of the most profitable areas for investment. Every year billions of dollars worth of deals are made in this area. The first investment funds were founded in the United States back in the XIX century. Since the middle of the XX century the concept of investment funds, called REIT (Real Estate Investment Trust), began to actively spread and enjoy popularity in the international arena. Russia, following the example of Western countries, in 2003 launched a similar financial instrument - a real estate unit investment trust (REIT), which from the very beginning of its activity has demonstrated high efficiency for both professional investors and private investors.

Changes in tax legislation

Since January 1 of this year, changes to the tax legislation concerning the operations of investment funds have come into effect in Russia. Let's take a closer look at what impact this will have on the sector.

Organizational and legal form

The key difference between mutual investment funds and REITs lies in their organizational and legal structure. A Russian mutual investment fund (PIF) is a property complex formed from investors' contributions, without having the status of a legal entity. In contrast, in the USA, investment corporations and trusts are managed by boards of directors or trustees, which creates a completely different legal basis for the operation of such funds. In Russia, PIFs are managed by specialized companies, including banks, insurance organizations, and brokers.

Fund Form and Restrictions

According to Russian legislation, the creation of a real estate fund is only possible in the form of closed-end mutual investment funds (PIFs). This means that shares are only available during the formation of the fund, and the return of investments occurs only at the end of its operational period. These restrictions are due to the fact that closed-end PIFs were created for a limited number of investors, not exceeding 20 people. In contrast, American REITs allow participation of at least 100 investors, with no more than five individuals controlling over 50% of all the fund's assets. Additionally, REITs can have an open structure.

The duration of fund existence

The maximum lifespan of closed-end mutual funds in Russia is 15 years, while REITs, by their nature, can operate without strict time limits. Many financial experts emphasize that it is advisable to invest in a real estate fund for at least three years, which is related to the inherent cyclicality of this market and its development characteristics.

Focus on construction and income

In the Russian Federation, a significant proportion of mutual funds direct their funds to investments in the construction of new properties with subsequent sale, with rental income accounting for only 10-15% of all profits. In the U.S., REITs began investing in construction only in 1986, and only on the condition that at least 75% of their total income is derived from rental payments or interest on mortgage loans. This approach to income distribution emphasizes the significant differences between mutual funds and REITs, which may significantly influence investors' decisions to invest their capital in certain funds.

Choosing investment tools

Therefore, it is important to carefully consider the choice of investment tool, taking into account all the nuances and characteristics specific to each of them.

Reinvesting dividends and the stock market

In our system, reinvesting dividends means that fund participants can only access their funds after the fund has completed its operations. Although some investment companies periodically distribute a portion of the profits to shareholders, these payments are generally much smaller than the mandatory distributions for REITs, which are required to distribute a minimum.90%taxable income in the form of dividends among its investors.

Differences between mutual investment funds (PIFs) and REITs

Shares of mutual investment funds (PIFs) are not intended for active trading on the stock market. Out of the 39 existing funds, only 4 are allowed to be traded on the stock market, which distinguishes them from REITs that are traded daily on major stock exchanges. Therefore, closed-end mutual investment funds (ZPIFs) cannot be considered an exact analogy to REITs. Russian and international investment funds in the real estate sector have different organizational and legal forms, sources of income, and approaches to profit distribution.

The number of funds in Russia

According to the Investfunds platform, there are currently active in Russia588real estate funds. Of these:

• 27are in the process of liquidation;
• 103are just beginning to take shape.

This indicates the dynamic development of this sector. It can be noted that the growth of mutual funds is approximately13%of the total number. If we consider these figures as annualized, an interesting, though not entirely accurate, comparison with the rate of natural population growth in the world emerges.

Comparison with the population of Niger

Special studies show that the development of real estate mutual funds in Russia is occurring significantly faster than the population growth in Niger, which, according to the 2010 World Factbook, ranks first in natural increase—three times faster than in the United States and 24 times faster compared to Russia, where a decrease in population is more likely observed.

The US market and its features

As for the United States market, it is more orderly.300funds, and their growth rate is noticeably lower. This is due to strict requirements for the establishment of funds. Nevertheless, the overall capitalization of these funds in the US is significantly higher than in Russia, exceeding it by more than60once.

Simplifying access to investments

Simplification of entry processes into this business sphere is also observed.

Introduction

Undoubtedly, the viewpoint of specialists recommending investment in real estate has been confirmed. This segment of the economy has suffered smaller losses compared to other areas, such as the stock market.

Statistics of changes

From 2008 to 2009, the number of closed-end mutual funds (CEMF) increased from 336 to 351, while the total number of mutual funds (MF) decreased from 1055 to 1016.

Interestingly, in the US, despite the challenges with mortgages, real estate investment trusts (REITs) showed a positive return of one-fifth of a percent. In comparison, the S&P 500 stock index experienced a decline of 13.08% in the same year, 2008.

Sector capitalization

The capitalization of the sector reached the level of 2002 during the 2008 crisis, but by 2010 it had almost reached the records of 2006. However, in recent years, changes have also affected the taxation of mutual funds.

Tax changes

As of January 1, 2011, amendments to the Tax Code of Russia concerning Chapters 30 and 31 of the second section came into effect. These changes require management companies to pay property taxes to the fund.

Previously, management companies claimed that mutual investment funds are not legal entities and, therefore, are not subject to taxation, which allowed developers to reduce their tax burden by transferring assets into mutual funds.

New requirements and their implications

However, the new tax conditions cast doubt on this practice. It is important to note that this will create difficulties between management companies and tax authorities due to uncertainties surrounding tax payments.

• Representatives of the management companies do not quite understand how the tax calculation will be carried out.
• Structured explanations are expected from the Ministry of Finance.
• Property tax will need to be paid to the management company based on the funds owned by the fund.

Unclear taxation criteria

It's not entirely clear what criteria will be used for taxation. According to standard practice, legal entities are required to pay property tax based on the book value of fixed assets, taking depreciation into account.

At the same time, mutual investment funds cannot be considered legal entities in the literal sense. However, an approach where tax is calculated, for example, based on the initial value of the asset minus depreciation, would be beneficial for both shareholders and management companies, as it would help reduce the amount of tax payments over time.

Result

Thus, the innovations in tax legislation will impact not only fund management but also many relationships in the investment sector, which will require careful analysis and adaptation of the actions of management companies to the changed conditions.

It is interesting to see what results these changes will bring and how they will change the practice of mutual funds in Russia.

Introduction

As of today, many questions are arising regarding potential changes in the taxation of Mutual Investment Funds (MIFs). The situation becomes even more complicated if the Federal Tax Service decides that tax liabilities should be based on the estimated value of the assets of these funds, which are expected to grow.

Expert opinion

According to Stanislav Brodsky, managing director of Veles Management, such a step could negatively impact the very system of mutual fund operations. Given these uncertainties, it becomes extremely difficult to predict potential financial losses for investors. In his opinion, closed-end rental mutual funds that own ready commercial properties leased out will be the most vulnerable.

• Despite the fact that the assets of these funds often consist of high-quality office and retail spaces, their returns are significantly lower than those of funds engaged in development.
• Brodskiy believes that the least affected will be investors who are investing in the construction of new projects, as tax payment issues are irrelevant until the construction is completed.

Possible consequences of changes

Some experts warn that as a result of these innovations some mutual funds may cease to exist. However, Andrey Nikitchenko, Director of BFA Management Company, believes that there will be no mass reduction of such funds and that the overall impact on the collective investment market will remain minimal.

At the same time, the opinion of Andrey Shulga, the general director of Finam Management, became known. He suggests that the new amendments could lead to a mass dissolution of funds, which in turn could cause instability in the real estate market. However, not all experts agree that the cancellation of tax privileges will reduce investor interest in mutual investment funds.

The position of management companies

Robert Khairullin, the head of JSC UK "AS Management," clarifies that the previously established mutual investment funds had already taken into account the possibility of paying land tax, as it was clear that this necessity would arise sooner or later.

• At this point, it should not be claimed that a benefit previously existed and that the legislation is now trying to abolish it.
• Rather, on the contrary, there was a gap in the legal system, which will now be addressed.

Tactical approach to tax planning

When it comes to tax planning, it is important to note that the primary goal of investment funds is to utilize the "deferred taxation" mechanism on profits. This allows for the reinvestment of every earned ruble into new projects, which, in turn, increases investment efficiency.

Conclusion

Recent changes in tax legislation affect the interests of many participants in the financial market and significantly alter established practices. In this situation, it should be emphasized that for many funds, this transformation will be a real test, requiring quick adaptation to the new rules.

Investors in mutual funds traditionally focus on long-term programs, and such legislative changes may force them to reconsider their strategies. It is important for management companies to adequately assess the current market situation and offer shareholders optimal solutions that will help minimize potential negative consequences from the introduced reforms.

Conclusion

In conclusion, I would like to note that investing in real estate through mutual funds (UIFs) is an interesting and promising approach for the Russian audience. Over the past two decades, we have seen a significant development of this market segment, as evidenced by the increasing number of mutual funds as well as active investor interest.

However, it is important to remember that, despite the advantages such as an affordable entry price and a variety of investment options, there are risks that potential investors must carefully assess. We know that dealing with unpredictable changes in the real estate market, as well as attempts at regulation by the government, is a challenge that requires a balanced and strategic approach.

Important points for investors

• Changes in the tax codecan influence investment strategies.
• Thoroughrisk analysisnecessary for successful investing.
• The experience of foreign countries can serve assamplefor Russian investors.

As a result, by combining our experience with Western practices, we can create a healthier and more mature investment ecosystem that can withstand economic challenges and ultimately yield profits for investors. It is important to remain attentive and flexible in our investment approaches, not only to preserve capital but also to grow it in the long term. I believe that sound real estate investment management in Russia will not only be a profitable practice but also an important step towards financial independence for many people.