France: A new investment vehicle

Author: | Published: 1 Jul 2008
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Real estate business in France was marked in 2007 with the arrival on the market of the first Undertakings for Collective Investment in Real Estate, or OPCIs (Organisme de Placement Collectif Immobilier).

OPCIs are a new category of collective investment vehicles, dedicated to real estate. Their purpose is to acquire or construct buildings with a view to rental, and holding shares in real estate companies and partnerships with similar objects. Their legal framework is, moreover, greatly inspired by the rules governing Undertakings for Collective Investment in Transferable Securities (UCITS, or OPCVMs in French).

Thus, like OPCVMs, which may be either unit trusts (FCPs) or open-ended investment companies (SICAVs), OPCIs may take one of two forms: the real estate investment fund (FPI) or the open-ended company with preponderant investments in real estate (SPPICAV). The vehicle may be organised in one of two ways, one open to the general public (grand public or retail OPCIs), the other reserved for informed investors (simplified organisation OPCIs or OPCI RFAs).

Like the OPCVM, the OPCI is obliged to redeem the units of investors that wish to withdraw, at their liquidation value. Such obligations can however be reduced, through lockstep and gating provisions in OPCIs dedicated to institutional investors. In order to meet redemption demands, retail OPCIs must carry at least 10% of their capital in liquid assets. The OPCI's assets may also include shares in listed real estate companies, units in foreign real estate funds, units in OPCVMs, and listed securities, a factor favouring liquidity and the diversification of risks.

OPCIs clearly differ from OPCVMs in the composition of their assets, which must comprise at least 60% in real estate assets.

The first ambition of the OPCI is to "complete and modernise the market offer for real estate savings products, intended for private individuals" (Report to the President of the Republic). As a vehicle intended for the general public, the OPCI has been organised with the two objectives of ensuring the security and the performance of the product. It therefore sets out to be a real estate investment product with enough protection for the general public, to have the flexibility sought by institutional investors, and to perform strongly for both.

Safe for the general public

The security of the investment is an essential element of the OPCI dedicated to the general public, which is ensured by the governance entities and the composition of the assets.

The promoters of the OPCI wanted the vehicle's management to be undertaken by a portfolio management company, the regulatory status of companies that currently provide for UCITS/OPCVM management. The AMF approves management companies for OPCIs. They must have a specific activity programme concerning the OPCI's management. These management companies may also manage other types of regulated vehicles (including UCITS) and unregulated ones, subject to AMF approval.

The depositary is new to French real estate funds. The depositary, an entity necessarily distinct from the management company, has the dual task of custody of the assets, in a manner suited to their specific nature, particularly for real estate assets, and control over the propriety of acts of management.

Valuation

Since the valuation of real estate assets held by an OPCI is a fundamental element of the OPCI's viability, it was decided to create a third force. It is therefore compulsory for the real estate assets held by the OPCI to be valued by two property appraisers, who must act jointly and draft a written report on completing their tasks, under the following conditions:

  • At least four times a year and at three-monthly intervals, each asset is valued by the OPCI's two appraisers, the first appraiser determining the value of the assets and the second proceeding with a critical assessment of this value.
  • Once a year each asset is the subject of a real estate appraisal, from one year to the next, alternatively by one appraiser and then by the other.

Property appraisers have access to all documents, information and investigative means as necessary and useful to their tasks. In return for this access to information, they are bound by professional confidentiality.

Security

The OPCI is a product essentially based on real estate, and must have a ratio of at least 60% in real estate assets. This threshold was fixed at a relatively low level by the Ordinance to facilitate the liquidity of the vehicle, which must operate on the principle of open funds (on the basis of subscriptions and redemptions), and not rely on a secondary market.

For the first time in French real estate management, ratios for diversification and the dispersion of real estate risks have been instituted. Thus, any retail OPCI must hold a minimum number of five properties, and a minimum percentage of the real estate assets (20%) must be made up of constructed properties that are available for rental. OPCIs have been given a three-year period from the date of their approval to comply with the ratios for the dispersion and capping of risks.

The OPCI is an open fund. The redemption of bearers' units therefore no longer depends on the existence of a secondary market but may be demanded at any time from the FPI's management company or from the SPPICAV. Thus, the assets of a retail OPCI must necessarily comprise at least 10% in deposits, financial instruments which are liquid in nature and liquidities, defined by the decree of December 6 2006 as deposits with a term of less than or equal to 12 months, and low-risk financial instruments (such as Treasury bonds, negotiable debt instruments and government bonds), as well as UCITS based on the money market or those based on government bonds.

Beyond the 10% ratio of liquidities, OPCI Management Companies that so desire may invest up to a maximum of 30% of their assets in financial instruments if they are approved for this purpose by the AMF and if the OPCI's founding documents expressly provide for the possibility, including (i) units in other OPCIs or equivalent foreign vehicles, for which the AMF will determine eligibility criteria; (ii) listed shares and bonds; (iii) certain types of UCITS; (iv) deposits (sight and time) and financial instruments of a liquid nature; (v) liquidities; and (vi) shareholders' loans. The OPCI's management will enable modern management methods, and the vehicle may grant shareholders' loans to real estate companies that it holds as referred to above.

The investment in financial instruments is of course also subject to the risk dispersion ratios. A retail OPCI may indebt itself for up to 40% of its real estate assets.

More flexibility for qualified investors

An OPCI is not just a product intended for the general public. The economic ambition of its promoters was also to create a vehicle for institutional investors, and to encourage the development of such real estate investment vehicles by providing the legal instruments required for their development.

The Monetary and Financial Code thus provides for the creation of simplified-organisation OPCIs (OPCI RFA), which are given more flexibility in the composition of their assets, their organisation rules and the remuneration or the management.

The OPCI-RFA-without-leveraging (SEL) is subject to more flexible ratios than the retail OPCI. As an example, the quota of five properties does not apply, the ratio for holding liquid assets is reduced to 5%, and the ratio for holdings in unlisted companies that are not controlled by the OPCI is increased to 20%. However, the debt ratio of 40% is still applicable.

The OPCI-RFA-with-leveraging (EL) is subject only to the ratio of 60% as a minimum holding of real estate assets. The ratios concerning real estate indebtedness, the dispersion of risks among the real estate assets or the financial instruments held by the OPCI, and even the percentage holding of liquidities, may all be freely determined in the OPCI's prospectus.

Subscription to an OPCI RFA is available to qualified investors as defined in Article L 411-2 of the Monetary and Financial Code, a similar definition to that given in the Prospectus Directive, and also to other categories of investors, subject to certain conditions as to resources or professional competency, as defined in the AMF's General Regulations. The OPCI RFA will thus enable the creation of true club funds, in line with certain equivalent foreign vehicles. The principle of stamp duty being applied for any sale or redemption of OPCI units by a bearer holding more than 20% of the outstanding issued units will however be restrictive for the structuring of some funds, which the funds' sponsors will have to overcome.

Flexible management

Other than the derogations from the ratios applicable to retail OPCIs, the OPCI RFA also benefits from two forms of management organisation that are essential to all institutional vehicles aimed to maximise the internal rate of return (IRR) of capital invested by the funds' subscribers.

The first flexibility is the possibility of organising subscriptions to be paid up in instalments (Monetary and Financial Code, Article L 214-145 paragraph 3). This allows investors to provide the sums on the management company's request according to investment opportunities and rhythms, after committing to subscribing to a global amount, and therefore to calculate their IRR only on the paid-up amount of the investment. To provide for security in the operation of the fund, Article L 214-145 has a penalty procedure, which can go as far as the sale of the units, against a bearer that does not meet calls for funds by the OPCI's management company.

It is possible for the management company to freeze the redemption of units for a period of up to three years after the creation of the OPCI RFA. This lock-up period for investors is common in institutional vehicles, so as not to require the management company to keep a minimum amount of liquidities to meet redemption requests during the asset build-up phase. In addition, redemption of assets can be limited by gating provisions inserted in the OPCI's prospectus.

Management remuneration

The terms for remunerating the manager of institutional funds most often contain a fixed part and a variable part, depending on the IRR, which can be delivered to the fund's investors.

This remuneration may take two forms, either a performance commission – a complement to the management commission attributed to the management company where the performance exceeds the level announced to investors – or preference units providing entitlement to a share of the capital gains and income generated by the fund.

The practice of allotting preference units is highly developed for real estate or investment capital funds, as these units may be allotted to the natural persons that manage the funds, or to the funds' sponsors, as opposed to the performance commission that only the fund's management company may receive.

The mechanism applicable to OPCIs is identical to that applied to French investment venture capital funds (FCPR) and authorises the creation of units with differentiated rights, some units giving different rights over the net assets or proceeds of the fund, under conditions laid down in the founding documents for the OPCI RFA.

High performing

The promoters of the OPCI wished to frame its management using prudential ratios not previously imposed in real estate, while making it a highly-performing management tool by giving the management of OPCIs a degree of freedom whenever these requirements were met and by having the OPCI benefit from an advantageous tax law framework.

The objects of an OPCI were conceived in terms broad enough to enable a secure and efficient management of the real estate assets held by the vehicle. Indeed, the OPCI's objects were conceived precisely to give the OPCI manager the flexibility to (i) hold all types of real estate assets, whatever the investment sector; (ii) hold such assets directly or indirectly, through one or more partnerships or limited companies; (iii) proceed with constructing buildings and carrying out works without any particular limit; and (iv) proceed freely with arbitrage between assets without having to comply with a minimum holding duration or obtain prior authorisation. The only restriction laid down by the legislature is that the OPCI cannot carry out real estate trading business.

Following in line with the provisions that apply to all foreign real estate funds intended for investment by the general public, an OPCI may use debt up to a limit of 40% of the value of its real estate assets. No objective is imposed for the use of real estate debt, even though its main aim would be to acquire real estate assets. In this respect, the Monetary and Financial Code authorises debt on an occasional basis in order to meet redemption demands. Moreover, this limit is not applicable to the OPCI RFA EL form.

Helpful tax laws

The tax aspects adopted at the end of 2005 instituted a tax transparency framework for OPCIs, which is similar in principle to that adopted three years ago in favour of Listed Real Estate Investment Companies (Sociétés d'Investissements Immobiliers Cotées, SIICs). OPCIs do not pay tax on the profits that they make, provided that they distribute a large amount of their revenues and capital gains each year. Since their profits are not reduced substantially by taxes, and they are also dispensed from booking deprecation allowances, OPCIs can redistribute a high amount of their revenues to investors.

Taxation applies to investors, either corporation tax at the ordinary rate for companies subject to it, or income tax. In this latter case, the new system is marked by the possibility offered to savers to choose their method of taxation: tax on income from securities if they invest in SPPICAVs, and real estate taxes if they opt for FPIs.

SPPICAVs are open-ended joint-stock corporations. They are obliged to distribute 85% of their rental income and 50% of the capital gains on the sale of real estate assets. In return, they are fully exonerated from corporation tax. Any 95%-held subsidiaries may opt for the exoneration framework applicable to SIICs, offering substantial flexibility in structuring their investments. The proceeds distributed by SPPICAVs are taxable for income tax as income from shares, with the benefit of the 40% allowance applicable to dividends. Gains on the sale of SPPICAV units are taxed at the effective rate of 27%, without any allowance due to the holding duration, according to the ordinary law on taxing capital gains on marketable securities.

FPIs are asset co-ownerships without legal personality. Like FCPs (unit trusts), they fall outside the scope of corporation tax, and the profits that they make are taxed in the name of the bearers of their units, at the time such profits are distributed. These entities are obliged to distribute 85% of their revenues and capital gains. Since taxation is determined along a principle of tax transparency, the distributed proceeds will, for natural persons, be essentially subject to real estate taxation, meaning that bearers that have gone into debt to acquire their units will be able to deduct the interest on borrowings.

In a sale of real property by an FPI, the capital gains will be taxed at the time of distribution under real estate capital gains tax. A source of simplification for the taxpayer and security for the tax authorities, the taxation of these gains will be undertaken by way of a withholding at source, at least if there is a call for taxation, since exoneration applies where the sold property has been held for more than 15 years as a consequence of the allowance rules applied over that period. Gains from the sale of FPI units by bearers will also be subject to this tax framework, giving a progressive exoneration of capital gains over 15 years. Its characteristics make the FPI attractive to savers wishing to make long-term investments.

To avoid hindering investors' entry and exit, subscriptions, sales and redemptions of OPCI units are exonerated from stamp duty. As an exception, sales and redemptions will be subject to a 5% duty where they concern family groups or legal entities holding, as applicable, more than 10% or 20% of an OPCI. Professionals, in particular insurers wishing to use the OPCI as a basis for life insurance contracts, have criticised this second situation for taxation.

One essential measure completes the system. SPPICAVs enter within the scope of the provisions adopted to encourage the external placement of real estate assets with real estate companies. At the time of sale of properties to an SPPICAV, the buyer's status will allow the seller, if a company subject to corporation tax, to benefit from a reduced tax rate of 16.5%.

Author biographies

Frédéric Nouel

Gide Loyrette Nouel AARPI

Frédéric Nouel was admitted to the Paris Bar in 1985 and has been a partner at Gide Loyrette Nouel since 1994. Nouel's practice focuses on the acquisition and financing of real estate assets, public and private property companies, asset financing and debt refinancing and restructuring, securitisation, the structuring and financing of real estate investment funds and lobbying. He advises the French real estate professional association on setting up OPCIs, the French non-listed REITs. In 2007, he advised Casino on the creation of an OPCI as a vehicle for the sale of a portfolio of supermarkets worth €500 million ($775 million) and on the setting up, alongside Lazard, of a real estate development fund attracting investment from the Goldman Sachs Whitehall funds. He also assisted Unibail and Goldman Sachs with the sale of Cœur Défense, the largest real estate transaction ever undertaken in Europe (asset value: €2.11 billion) and the Paris Chamber of Commerce and Industry for the creation, with Unibail, of the joint venture Viparis (value: €1.5 billion). In 2005, he advised the Goldman Sachs/GE/CDC consortium on refinancing by means of securitisation, of the technical assets of France Telecom (€1.2 billion) and the French government on its sale of the National Real Estate Company (SNI).

In 2002, he acted for the Goldman Sachs/GE/CDC consortium on the acquisition of the France Telecom portfolio, the largest real estate transaction in France.

Stéphane Puel

Gide Loyrette Nouel AARPI

Stéphane Puel was admitted to the Paris Bar in 1997 and has been a partner at Gide Loyrette Nouel since 2006. Puel specialises in asset management law and advises French and foreign financial institutions on setting up and obtaining approval for management companies and on structuring, documenting and distributing French law closed regulated (structured UCITS, FCPR, SCR, SICAR, limited partnerships, OPCI, contractual UCITS) and non-regulated investment funds (French SAS, Luxembourg SCA and SOPARFI), as well as foreign investment funds (alternative or private equity management funds situated in other European jurisdictions or offshore). He advises these entities on the rules governing how they do business – human resources, internal control requirements, risk management – and assists them with court or disciplinary proceedings.

Puel also acts for major institutional investors on their contemplated subscription in regulated and non-regulated investment funds. In cooperation with the tax and the real estate teams, he has gained experience in pre-investment audit operations. He frequently assists major potential subscribers on the negotiation and drafting of the related documentation.