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REITs as Real Estate Developers: New Rules to Promote Investors’ Confidence

The Hungarian Parliament has adopted new rules on the real estate investment trust (“REIT”), supporting the establishment of more such entities. Between 2011 and 2017, the concept of REITs did not live up to expectations in Hungary, so the legislators have decided to ease some rules that seemed too onerous for investors in the Hungarian market.

Kinga Hetényi, Managing Partner, Schoenherr Hetényi Attorneys at Law

In 2017, the legislator set forth more favorable taxation terms and conditions, and also simpler rules of foundation and operation (for example, the reduction of the minimum registered capital requirement from HUF 10 billion to HUF 5 billion). This change process has now continued with (i) the clarification of the activities of a REIT, (ii) the extension of the scope of the issuable classes of shares, and (iii) the alignment of the rules of the REIT Act on the dividend pay-out with the Hungarian Civil Code.

Based on the REIT Act, REITs in Hungary may be set up as a special form of corporation listed on the stock exchange (i.e. public companies limited by shares). REITS have to meet various special requirements and they need to be registered with the relevant registry of the Hungarian Tax and Custom Administration (“HTCA”). As part of the special requirements, the companies may only be engaged in activities that qualify as authorized activities (e.g. activities of holding companies, purchase and sale of own real estate, property management). The legislator has now clarified that REITs and their SPVs or subsidiaries may engage in real estate development activities, however, they may not pursue actual construction activities (i.e. a REIT is eligible to enter into a construction agreement with a contractor, but not as a contractor). This change enables REITs to participate in the organization of real estate development projects.

Before the recent amendment, REITs were authorized to issue only ordinary shares and employee shares. From now on, REITs may also issue preference shares, except for dividend preference shares and voting preference shares with veto right. Dividend preference shares may not be issued by REITs anymore, and the earlier possibility to issue such employee shares is also no longer available. However, the amendment provides an opportunity to issue voting preference shares (without veto right), ensuring the main investors’ control over the company and increasing the free float of the shares.

Adrián Menczelesz, Associate, Schoenherr Hetényi Attorneys at Law

The former provisions set a strict obligation for REITs: a REIT had to pay out a dividend, equivalent to at least the expected dividend (as defined by the REIT Act) within 15 trading days following the approval of the financial statements. If the funds available for dividend distribution were lower than the expected amount of the dividend, at least 90% of the disposable funds must have been paid out to the investors. This rule limited the shareholders’ freedom of choice and also restrained investors from the establishment of a REIT.

The amendment takes into consideration the shareholders’ freedom of choice set out in the Hungarian Civil Code. The new rules still provide that the management must make a proposal about the expected dividend but the shareholders’ meeting may decide not to pay a dividend, or to pay a different amount of dividend. Besides that, the amendment aligns the REIT Act with the Hungarian Civil Code in relation to the dividend pay-out, as it also provides an opportunity to REITs to form a reserve for new projects or transactions. In accordance with market practice, the deadline for the dividend pay-out changed to 30 days from the approval of the annual financial report by the shareholders’ meeting.

The concept of the REIT has not become widespread to date because of the burdensome requirements. After the amendment in 2017, a number of real estate companies have announced their intention to be transformed into a REIT. The HTCA has already registered Graphisoft Park as a REIT, and also Budapesti Ingatlan Hasznosítási és Fejlesztési Nyrt. and Appeninn Vagyonkezelő Holding Nyrt. as a regulated real estate investment preliminary company. The establishment of more new REITs is expected to follow the progressive changes of the REIT Act.