Infrastructure investment trusts (InvITs) have become quite a successful investment instrument in the past few years. Since the launch of the first InvIT in 2014, several quality sponsors have successfully launched both public and private listed InvITs and have attracted a range of leading global long-term investors on to the platform. So far, nine InvITs have been launched across various infrastructure sectors, raising approximately $10 billion in capital. A range of new InvITs are currently in the pipeline and are expected to hit the market in the next 12-24 months. The economy is likely to witness massive capital inflows through this instrument. The instrument marked quite a solid start, with the market seeing the launch of all three types of InvITs; public listed, private listed and private unlisted.
At a recent India Infrastructure Forum event, industry experts shared their views on the overview and the regulatory framework of InvITs…
Overview and regulatory framework
A public listed InvIT is similar to an initial public offering, where the unit base is much larger and retail investor participation is allowed. Public listed InvITs are more widely held, with their liquidity being substantially higher. In contrast, private listed InvITs are technically listed but are generally held by a select group of investors. While such an InvIT is listed, the liquidity or daily trading is not always present; sometimes it trades in a month, or at times, even in a year. This category of InvIT caters to large global and domestic investors such as sovereign wealth funds, pension funds and others that generally do not require liquidity on short notice and thus avoid daily trading in the market. Private unlisted InvIT is a new class of InvITs that has recently emerged. It gained prominence after tax benefits, which were previously available only to listed InvITs, were extended to unlisted InvITs as well. Private unlisted InvITs have an advantage over listed ones in terms of leverage limits. The leverage of public and private listed InvITs’ is initially capped at 49 per cent and can be increased to 70 per cent post a track record of a minimum of six distributions and maintaining a debt rating of AAA, whereas there are no such leverage limits in case of a private unlisted InvIT. The other major component that used to be a differentiating feature was tax benefits, but it is now common across all three structures.
An InvIT could be either seller-led or a buyer-led with the seller-led type being the most prevalent. A notable example of a seller-led type InvIT is the IndInfravit Trust, which was sponsored by L&T Infrastructure Development Projects Limited. In this case, external investors provided for 85 per cent of the capital, while sponsors provided for the remaining 15 per cent. Meanwhile, Brookfield Asset Management’s acquisition of Reliance Industries Limited’s loss-making East West Pipeline, wherein Brookfield was the buyer but functioned as the sponsor and floated an InvIT to acquire this pipeline asset, is a case of buyer-led InvIT.
Co-investors
The InvIT regulations require at least five investors at the time of listing of InvITs, which include global infrastructure investors, insurance companies, mutual funds, provident funds, banks and family offices. All these investors operate under their own set of regulations and restrictions. Global infrastructure investors such as global pension funds and sovereign wealth funds have been the most dominant investors and have already made significant investments, particularly in the private listed InvITs. Other investors such as provident funds, mutual funds and insurance companies do not hold a majority stake, but a sizeable share of up to 5 per cent. For instance, provident funds can only invest up to 5 per cent of their annual investments in one or more InvITs during a financial year. Banks with large treasury operations can invest in InvITs; however, they are required to maintain a 100 per cent capital reserve requirement while making such an investment. In family offices, liquidity remains the biggest concern in private listed InvITs. With family offices seeking highly liquid assets, they are primarily interested in public listed InvITs. Net, net, the product is becoming quite popular amongst the international and domestic investor community.
Tax incentives
In the majority of circumstances, an InvIT structure has decisive tax advantages. One of the major advantages that an InvIT has over other corporations is that no tax on dividend is payable by the special purpose vehicle (SPV)/InvIT on dividend received by the InvIT/unit holders, provided that the InvIT opts for the old tax rate regime for SPVs, that is, a higher tax rate of 30 per cent rather than the lower tax rate of 22 per cent under the new tax rate regime. The second advantage of InvITs is with respect to concessional withholding tax (WHT) on shareholder loan (SHL) interest. An SHL is like an inter-company loan, which is quasi-equity but it has a tax advantage as its interest rate is tax deductible. Concessional WHT is applicable on the income distributed by an InvIT to unit holders in the nature of SHL interest throughout the life of the InvIT at the rate of 5.46 per cent, as opposed to 15 per cent for corporates from financial year 2024. The other benefit in the case of an InvIT structure is higher corporate tax optimisation at the SPV level. InvITs can take a loan at their level and onboard them into SPVs, because the SHL can be onboarded at a higher interest rate vis-à-vis external debt, which allows for higher tax optimisation at the SPV level. As an InvIT is considered a resident entity, the thin cap regulations limiting the tax benefit of interest to 30 per cent of earnings before interest, taxes, depreciation and amortisation are not applicable to InvITs.
Governance
The fundamental structure of an InvIT, the functions, roles and responsibilities of each of the parties to an InvIT, and governance norms are specified by the Securities and Exchange Board of India [SEBI] (InvIT) Regulations, 2014. In terms of investment manager ownership, generally, the sponsor owns 100 per cent or the majority of the ownership of the investment management company. Pension funds and sovereign welfare funds do not require ownership in the investment manager; however, some of the asset managers may acquire a stake or majority of the investment manager’s ownership depending on the case. With respect to the involvement of InvIT investors in future capital structuring and acquisition decisions, generally, significant investors prefer to have some stake subject to compliance with SEBI regulations. In terms of unit holders’ vote threshold levels, SEBI guidelines have prescribed over 50 per cent and over 60 per cent-plus unit holders’ approval for specified matters and over 75 per cent approval in some rare cases. SEBI has been quite reluctant to alter these approval levels.
Financing
Bank and bond financing are now available at the InvIT as well as the SPV level. Bank lending is more popular; however, bonds are also being issued by InvITs. Banks are agreeable to refinance third-party debt and shareholder loans, but in the case of acquisitions, banks are still reluctant to fund the equity portion. This is, however, a general issue and not an InvIT-specific issue. Getting infrastructure debt funds repaid is a challenge; generally, they are agreeable with financing at the SPV level but not at the InvIT level.
In sum
Overall, an InvIT is a tax-efficient investment instrument, having a strong capital structure. There are certain aspects, which, in the case of any alternative structure, have to be revaluated as the instrument develops. The international/proprietary infrastructure investors have invested a significant amount of capital to date. Typically, these investors have preferred private listed InvITs over public InvITs due to the mark-to-market issue. These investors seem to appreciate the InvITs’ structure, which is turning out to be a big positive. The tax treatment parity for private unlisted InvITs has resulted in a huge number of parties exploring this category as well. However, with SEBI mandating a minimum of five non-sponsor unit holders and a non-sponsor unit holding of 25 per cent, investors may reconsider unlisted InvITs, evaluating whether these are appropriate for them. Current indications are that the InvIT product is being well appreciated by domestic institutions, family offices, high net worth individuals and retail investors in general. Going forward, a well-developed domestic investor base would provide an opportunity to flip private InvITs into public listed InvITs and potentially get a cost of capital arbitrage.