Fractional ownership platforms have started the process of registering under the new SEBI regulations for Small and Medium Real Estate Investment Trusts (SM REITs). This comes a month after SEBI notified rules to govern SM REITs holding income-generating and completed commercial, rental housing, warehousing and hotel properties.

Integrated co-working firm EFC (I) Ltd plans to form an investment manager subsidiary to oversee assets and investments for an SM REIT through its wholly-owned subsidiary EFC Ltd. Other platforms like Strata and WiseX are taking similar steps.

The move will enhance transparency and boost participation from domestic and foreign retail investors, leading to greater liquidity, according to Umesh Sahay, founder & CEO of EFC (I) Ltd.

EFC's board has approved the creation of a step-down subsidiary under EFC Ltd to act as the investment manager for the SM REIT. EFC REIT is being incorporated and an application is expected to be filed with SEBI in 3-4 months.

Fractional ownership platforms are estimated to manage more than INR 4000 crore in assets under management or AUM. Fractional ownership permits individual investors to co-own commercial or residential assets as an alternative investment. Properties can be acquired through special purpose vehicles or through private limited companies.

SEBI notified the SM REIT framework in March to regulate the fractional ownership industry, protect investors, and include residential properties. It allows individual investors to have fractional ownership of rent-yielding assets with a minimum investment of INR 10 lakh, contrasting with the earlier norm where fractional platforms often required an investment of about INR 25 lakh.

The regulations establish guidelines for SM REITs with assets valued between INR 50-500 crore. The SM-REITs will also be able to create separate schemes for owning real estate assets through special-purpose vehicles constituted as companies.

They can leverage up to 49% of the value of the scheme's assets. It also mandates investment managers to always hold at least 5% of total outstanding units if a SM-REIT is not leveraged. In the case of a leveraged SM-REIT, the investment manager is required to hold 15% of the units.

It specified that the investment managers of such REITs should have a minimum net worth of INR 20 crore and the REITs can raise a minimum of INR 50 crore from at least 200-unit holders.

The Indian real estate market has seen significant investment growth in recent years. There were few platforms for retail investors to fractionally invest in real estate. REITs were not viable due to high minimums of INR 500 crore in assets and INR 250 crore issue sizes. As such, FOPs were the primary avenue for retail real estate investment. FOPs typically establish special purpose vehicles (SPVs) that purchase properties, with investors subscribing to the SPV securities.

This investment has included properties like buildings, offices, shopping malls and other real estate assets purchased through fractional ownership. Fractional Ownership Platforms (FOPs) allow investors to buy portions of real estate for between INR 10-20 lakhs.

As FOPs rose in popularity, investor funds faced risks as platforms lacked regulation. FOPs could violate Acts like the Companies Act of 2013 and Prevention of Money Laundering Act of 2022. As a result, SEBI introduced rules for Small and Medium Real Estate Investment Trusts (SM REITs) under REIT Regulations of 2014 to regulate FOPs.

Retail investors use these platforms to make investments, but co-ownership is another problem with fractional real estate. Because no hierarchy structure exists on these platforms, it implies who would make the decisions about investments and who would have authority over the property. As a result, investors were hesitant to make investments in fractional estate.

The lack of exit mechanisms is another issue with fractional investment. Retail investors invested money on these platforms, but as these FOPs players manage the secondary market, which can cause liquidity delays, they have no way to get their money out of the platform and invest it elsewhere.

Due to a lack of openness and disclosure of essential information, investors may experience losses as a consequence of mis-selling, and ultimately, they may incur losses as a result of the manager?s negligent management. Thus, SEBI chose to regulate these platforms in order to protect investors.

The current FOPs that are investing in real estate will need to register with SEBI as SM REITs in accordance with the recently introduced regulations for SM REITs and meet all requirements set forth by the regulators. In this instance, FOPs operations will be halted upon failure to fulfil the specified requirements.

In REITs, the investment manager can only invest in commercial properties, but under the new regime of SM REITs, the investment can be made in both commercial and residential areas.

Fractional ownership platforms currently manage over INR 4,000 crore in assets. According to a recent report by JLL India and PropShare, India's USD 500 million fractional ownership market could grow to USD 5 billion by 2030.

By lowering entry barriers and offering diversification opportunities, SM REITs intend to attract more retail and institutional investors and boost market confidence. The amendments aim to regulate and organize fractional ownership while boosting transparency and encouraging participation.

The registration of major FOPs as SM-REITs marks a significant development for the maturing fractional real estate sector in India. By bringing the industry under a common regulatory framework and lowering minimum investment thresholds, retail participation is expected to rise substantially. If more platforms opt to list as SM REITs, it could pave the way for increased institutional funding as well. With greater transparency and liquidity, fractional real estate may finally start to fulfill its potential of democratizing investments in the country's booming commercial real estate market.