The decision by the Securities and Exchange Board of India (SEBI) in its latest Board meeting to reclassify Real Estate Investment Trusts (REITs) as equity instruments for the purpose of investment by mutual funds, is being cheered as a win-win move by both the stock market and real estate ecosystem.
Stock market participants seem to be happy that the inclusion of REITs in the equity definition will open up an alternative, somewhat safer avenue for equity mutual funds to park their surplus cash. Most equity fund managers are today aware that stock market valuations are stretched. They find it challenging to deploy the gush of inflows from new funds and Systematic Investment Plans (SIPs), especially with earnings growth at India Inc now sharply lagging valuation multiples. REITs are generally safer instruments than stocks, as they pool investor money to invest in regular income-generating assets such as office space and commercial property which offer predictable rent. Ninety per cent of the income earned by the REIT is distributed to investors as a payout.
But opening up REITs to equity funds is unlikely to solve the mutual fund industry’s problem of plenty, because there is a limit to the flows that listed REITs can absorb. In the eleven years since REIT regulations were notified in India, only five listed REITs have made a market debut. These REITs today carry a combined market capitalisation of less than ₹2 lakh crore, compared to the equity market capitalisation of ₹460 lakh crore. With only five listed players, the REIT market is also not very liquid or deep, with a daily traded value of not more than ₹500 crore. Given this context, the diversion of large equity flows into REITs can lead to distortions in their pricing. Equity funds cannot materially hike their REIT allocations without a significant expansion in the number, variety and trading volumes of listed REITs in India.
The argument that diverting equity fund flows into REITs will improve fund flow to the real estate sector also stands on rather thin ground. Given the structure of rental yields in India, only REITs investing in commercial property (and not residential property) are a viable proposition for sponsors and investors. The main constraints to the development of commercial REITs in India are the unorganised and fragmented nature of the commercial property market, the relative paucity of Grade A space and the preponderance of informal and short-term rental agreements. Mere reclassification of REITs as equity without addressing these structural constraints is unlikely to improve capital flows into this sector. REITs are unattractive relative to bonds and other fixed income instruments due to their complicated taxation. While REITs enjoy pass-through status for their rental and other income, the payouts they make to investors are segregated into dividends, interest and capital repayments and taxed at differing rates. Simplifying taxation can boost REITs in India.
Published on September 16, 2025
