In previous post, we discussed how to invest in Real Estate Investment Trusts (REITs) and Infrastructure Investment Trusts (InvITs) to get exposure to real estate and India’s infrastructure while gaining regular income through dividends.
And one more important thing about investing in them was the tax part. We told you taxation on REITs and InvITs income was complicated.
The Income tax rules on REITs and InvITs are the same, so let’s discuss them together.
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Buckle up, here we go!
A quick recap on the four incomes you can receive from your investments in REITs and InvITs. Below are the four incomes:
- Rental or Interest income
- Dividend income
- Loan repayment or return of capital
- Capital gains
REITs and InvITs share the dividend income received from the projects in the portfolio, AKA net distributable income, after taking out the expenses incurred in managing the assets, such as asset management fees, maintenance expenses, and taxes.
When the REITs and InvITs distribute the dividends, they provide a breakup. The breakup shows us how much of it was rental or interest income, dividend income, and loan repayment/return of capital.
Why share a breakup? Because this break up will determine how much tax you need to pay.
Let’s discuss each of these incomes separately and their tax implications.
1. Rental or Interest income from REITs & InvITs
REITs and InvITs don’t own all the properties or infrastructure projects directly under them. They invest in Special Purpose Vehicle (SPV) entities that own income-generating projects or in-construction projects.
And they also dole out loans to these SPVs to build or manage the projects they own.
When these SPVs pay interest on these loans, both REITs and InvITs are supposed to share 90% of these directly with us as shareholders. In a simplified way, they have to share the income generated by them in the same income nature with the shareholders.
Note: Rental income only applies to REITs.
That’s why investors in REITs and InvITs will receive interest income under the dividends.
Tax implication: Interest income is taxed in the hands of shareholders as per the tax slab. If you fall into the 30% tax slab, you pay 30% tax on the interest income part.
Also, REITs and InvITs apply 10% TDS while distributing interest income.
2. Dividend income from REITs & InvITs
As mentioned earlier, REITs and InvITs share the dividend income received from the projects in the portfolio, AKA the net distributable income, after taking out the expenses incurred in managing the assets, such as asset management fees, maintenance expenses, and taxes.
Tax implication: Dividend income is tax-exempt on one condition. A few years back, the Government reduced the corporate tax as a concession.
If the REIT or InvIT you invest in has opted for this concessional tax. Then They will charge 10% TDS before distributing the dividends, and the shareholders have to pay tax as per the tax slab.
If the REIT or InvIT hasn’t opted for the concessional tax. Then the dividend income is tax-exempt. You don’t have to pay tax, and the trust won’t charge any TDS.
3. Loan repayment or return of capital from REITs & InvITs
As explained under the interest income point, REITs and InvITs don’t own all the properties or infrastructure projects directly under them. They invest in Special Purpose Vehicle (SPV) entities that own income-generating projects or in-construction projects.
And they also dole out loans to these SPVs to build or manage the projects they own.
When these SPVs repay part of the loan, both REITs and InvITs share the same with us as shareholders.
Tax implication: For a long time, the Government did not tax loan repayment as they did not consider it as income under Income tax rules. But this year Government changed things and made things more complicated.
First, in budget 2023, they announced cash flows made to investors under the head ‘repayment of loans’ were fully taxable. Cleary REITs, InvITs and investors weren’t happy with this change.
So they tried to tweak this change in the financial amendments announced for the Financial Bill 2023. This tweak actually made things more complicated. What was the tweak?
The Government announced that so long as these repayments of loans are below the issue price of the REIT or InvIT unit; they are not taxable on payment.
Instead, you have to deduct them from your cost of acquisition of the units while computing capital gains when you sell your REIT or InvIT units.
Let’s say you bought a unit of REIT or InvIT for ₹100. And they paid ₹10 every year to you under the head “repayment of debt” for 3 years. You then sell the REIT or InvIT for a sum of ₹150. Here, your capital gain is not 150 – 100 = ₹50. Instead, it’s 150 – (100 – 30) = ₹80.
The problem is you have to keep track of the repayment of loans by the REITs or InvITs since their inception. If at any year their cash flow made as repayment of loans exceeds the issue price (e.g. ₹100) while you are holding the units, then you should pay tax on the amount as per your tax slab.
This complicates things for the investors, but one slight relief is that it will take 15-20 years for all the listed REITs and InvITs to reach that point. Until then, you don’t have to pay taxes.
But it increases your capital gains. Also, we have discussed the other crucial amendments announced here.
4. Capital gains from REITs & InvITs
Investment in REITs and InvITs works similarly to your investment in an individual stock or mutual fund.
The unit price of REITs and InvITs can increase as the value of the underlying asset increases or because of the demand and supply in the market. We earn capital gains if we sell the REITs or InvITs units at a higher price than we bought them.
Tax implication: Investment in REITs and InvITs is considered long-term if you sell them after 36 months or 3 years.
If you sell the units of REITs and InvITs on profit before 36 months, you have to pay short-term capital gains of 15%.
And if you sell the units at a profit after 36 months, you have to pay long-term capital gains of 10%. And yes, you can claim an exemption on profit if your total long-term capital gains in the financial year are below ₹1 lakh, like in stocks.
And yeah, we have covered the tax implications on all 4 incomes you can receive from your investments in REITs and InvITs.
To summarise, dividend income is tax-exempt if the REITs or InvITs didn’t opt for the concessional tax. Or else you have to pay tax on them just like you may have to pay tax on rental or interest income. REITs and InvITs will deduct TDS of 10% if you have to pay tax.
Cash flow shared under repayment of loan or capital is tax-free until the total payment exceeds the issue price of the units, but this increases your capital gains. You pay 15% on short-term capital gains and 10% on long-term capital gains (after ₹1 lakh).
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Still Curious?
If you are like us, who likes to analyse a little more or check out content in different formats, well you are in luck. Below you can find some suitable content we found.
Capitalmind – How is income from InvITs and REITs taxed?
The Economic Times – Government proposes tax relief for REITs, InVITS
Note: We don’t have any affiliation with them. We are sharing links only for educational purposes. The opinions expressed by them belong solely to them and do not reflect the views of Vrid.