Ann: Dividend/Distribution - SCG, page-19

Secondly, isn't the 90% mandated somewhere as minimum payout for a REIT, ie they have to pay this out to qualify for no tax.


REIT's will invariably have a complex structure with a Trust at the forefront of the arrangement.
Generally the net income of a Trust is taxed in the hands of the beneficiaries.
The rules set for a Trust inside a REIT are determined by the Trust Deed and conventionally includes the need for 90% of the Trust income to be distributed to the Unit trust holders.
When you buy shares in a REIT you are allocated a unit in the Trust - one unit per share. You can't Buy or Sell one without the other i.e. they are stapled.
Technically, any pay outs by a REIT are distributions from the Trust and linked to the number of units you hold in the Trust rather than it being a dividend linked to the number of shares you own in the Holding Company (but it works out the same).
REIT’s are structured so that the direct property income and direct property expenses are passed through the Trust (again from the rules of the Trust).
So 90% or more of that net income, formed by the difference between the Income and Expenses, needs to be distributed (in line with the rules of the Trust Deed).
This rule doesn’t allow for very much room to play around. Weighting the distribution against the free cash available is not an option.
The thing is that, in the absence of other issues, the net income measured in the Trust will equal the cash flow (or thereabouts).
The problem arises when the REIT spends money on, say, a Capital improvement. This improvement reduces the available cash but doesn’t represent a Trust expense so you then have a gap between the Trust net income, 90% of which must be distributed, and the free cash flow number.

Ultimately that gap must be filled by either a loan or a capital raising.As suggested via this thread, it's all good when the valuations are moving the right way. But when rentals are reduced and, with it, property valuations, then life gets a bit risky as free cash runs out and bankers review loan covenants.

So why do REIT’s offer such a convoluted process. I don’t know but suspect that if the “Trust” approach was removed and, therefore, Income Tax was applied to the result, the return would not be as attractive to investors. Paying out 90% or more of the result the Trust offers is, sort of, a backdoor way of returning some of the value of the revaluation more immediately. If they delivered a distribution or dividend that was, in part, out of the revaluation, they would confront Capital Gains tax issues for either themselves or the shareholder.