The World Bank has recommended that the institution of the Real Estate Investment Trust (REIT) should be encouraged in Pakistan as it is an alternate model for developing real estate, which is more transparent and structured than the traditional real estate development process.
According to the WB report, 'Expanding Housing Finance to the Underserved in South Asia' available on its website on Thursday, it is important that joint ventures with foreign developers be encouraged to modernise and increase capitalisation of the real estate sector. Among other things, this would encourage the transfer of technology and management know-how.
The report said that there is a general consensus among policy makers in Pakistan that, if properly regulated and supervised, REITs would yield a multitude of benefits for promoting and developing the housing sector. Because REITs provide an alternative source for raising capital, they would help increase the liquidity of the real estate market. At the same time, the institution and proper functioning of REITs is expected to improve the governance structures of real estate companies in the industry, especially with regard to transparency and credibility.
The report said that Pakistan is facing unprecedented challenges of acute housing shortages, unhealthy living conditions, and non-existent or dilapidated infrastructure across the country.
An in-depth tax rationalisation program needs to be implemented to develop a taxation scheme that promotes economic behaviour consistent with the overall long-term economic policy objectives. There should be a reorientation of the government's taxation role in land-related transactions. In line with the spirit of the National Housing Policy, efforts need to be made to rationalise and standardise the rates of stamp duties and registration fees across the four provinces and the federal capital. Furthermore, by automating the tax collection system, the government will strengthen the revenue collection process.
Stamp duties and registration fees need to be lowered. Keeping in view the positive implications of rate reduction on documentation of property transactions and subsequently on provincial revenue receipts, the provincial governments should adopt the National Housing Policy in both letter and spirit by reducing transaction costs on residential properties in accord with the housing policy covenants - that is, for conveyance and mortgage deeds, the aggregate rate of stamp duty and registration fee should be decreased to 1 percent and 0 percent, respectively. The commercialisation fee should be rationalised as well.
The present high transaction costs create an incentive to record transactions at a price much below market value (the DC Rate) because there exists a substantial disparity between the actual transaction prices and those recorded for tax purposes. This disparity puts corporate entities such as REITs at a serious disadvantage because these entities are required to disclose the actual purchase price (and pay fees based on it rather than on the DC Rate).
Therefore, to encourage corporate entities in the construction sector, it is proposed that commercialisation fees should be reduced to 10 percent. Instituting automated land records, in tandem with rate rationalisation and improving the revenue collection system, has the potential to encourage documentation of property transitions by reducing the direct transaction and opportunity costs, and would have a positive impact on the provincial governments' revenue collections.
Moreover, housing tax revenues need to be directed toward managing the land management system in a commercially sustainable manner that enables the government to fulfil its social responsibilities toward middle- and low income households, and its good regulatory governance responsibilities to the entire sector, the report said. The report further said that private banks vastly dominate the housing finance market when outstanding loan balances are considered; however, the HBFC remains the largest lender by number of clients, serving some 71 percent of housing finance borrowers.
The overall market share of commercial banks (excluding DFIs) remained around 81 percent between March 2008 and March 20009, with rapid growth in the market share of Islamic banks compensating for a decrease in private bank share. The market share of the HBFC has risen from 17.8 percent to 20.3 percent (not accounting for non-performing loans).
Housing finance sector products range from loans for home purchase or renovation to financing for construction. The most popular product by far, with an outstanding portfolio of Rs 47.6 billion and a share of 59 percent, is the home purchase loan. Construction loans stand at Rs 23.8 billion (29 percent share), and renovation lending is at Rs 9.39 billion (12 percent of total). In a nascent market, the dominant share of home purchase loans with smaller exposure to construction and renovation loans is not surprising. The need for verifiable collateral for the loan makes construction loans more difficult to finance; renovation loans tend to be smaller, of shorter maturity, and with lower profit margins for the banking institution.
The report said that the greatest challenges that the housing and housing finance sectors are facing at the moment are the inefficiency of the overall regulatory regime, including land and titling procedures; a poor regulatory framework for housing and real estate; and the lack of an organised database and key information on the housing and housing finance sectors.
Other challenges include insufficient developed land and exorbitant land and housing finance prices; housing shortages; maturity mismatch and liquidity risk in mortgage lending; poor government success in addressing low-income housing needs; and lack of commercially viable housing microfinance lending.
High economic growth and remittances have produced escalating real estate prices and a high ratio of urban property prices to purchasing power that is typical for densely populated cities, such as Mumbai and Hong Kong, China. The twin problems of supply shortages and escalating prices underscore the underdevelopment and under-capitalisation of the housing sector.
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