Regulators weighing new rules for non-traded REITs

Changes could tighten limits on individual commercial investors

Starwood’s Barry Sternlicht and Blackstone’s Stephen Schwarzman (Illustration by The Real Deal with Getty Images)
Starwood’s Barry Sternlicht and Blackstone’s Stephen Schwarzman (Illustration by The Real Deal with Getty Images)

Privately-held real estate investment trusts could soon face more scrutiny over how much an individual invests and what a fund can do with money it raises from selling shares.

The North American Securities Administrators Association is looking into new rules that would limit how much an investor can buy into a non-traded REIT and prohibit such funds from paying out distributions from capital earned from selling shares, The Wall Street Journal reported. Investors would be prevented from putting more than 10 percent of their liquid net worth into a non-traded REIT and other investments provided by the fund sponsor.

State securities regulators claim such investments are more risky for less experienced investors, who could be protected by such reforms from massive losses if the REIT were to collapse or the sponsor pulled back redemptions.

There were 429 investor complaints regarding REITs last year that came before arbitration panels overseen by the Financial Industry Regulatory Authority. The majority of those complaints were connected to privately-held REITs, officials said.

Meanwhile, opponents of the proposed rule changes claim such policies would prohibit investors from pursuing investment strategies and regulators’ concerns have already been addressed by fund sponsors, brokers and financial advisers. Industry officials also claim that it would implement a one-size-fits-all approach to investors.

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Anya Coverman, who serves as senior vice president of the non-traded REIT trade organization Institute for Portfolio Alternatives, called the proposed changes “a solution in search of a problem.”

If such policies were to be approved and adopted by states, fundraising by non-traded REITs could drop by 20 percent, according to the investment banking firm Robert A. Stranger. Such funds raised a record $36.4 billion last year and are on pace to match that number this year.

The voluntary organization of state securities regulators has no power on its own to change the rules, which haven’t been updated regarding the funds since 2007. But many state regulators adopt the group’s recommendations. The association is now taking comments on the proposed changes from fund participants.

Non-traded REITs aren’t listed on stock exchanges. Such funds allow individuals to invest directly into commercial properties like office buildings and warehouses. Investors acquire shares through brokers and financial advisers.

These commercial property funds have been around for more than 20 years and have frequently butted heads with regulators over high fees and risk disclosure.

But newer non-traded REITs started by the likes of Blackstone, Starwood, KKR and Ares Management have become popular in the last five years, as these funds have offered lower fees and provided more liquidity than previous ones.

— Pat Ralph