Community REIT: hacking an existing real estate mechanism to strengthen charities, not-for-profits and co-ops.

Market REITs (Real Estate Investment Trust) are a tool used by property owners or developers to recapitalize their assets once the revenue has been stabilized, enabling them to hold on to them rather than selling their buildings in order to get the equity out. The property owners would group the same purpose real estate under one REIT portfolio and would issue units of REIT to investors in return for a dividend. Historically, in Canada, the dividend rates are in the range of 2.95% to 4.04%. Market REITs benefit from the following three advantages: 1) Market REITs are tax exempt, from both taxes on revenue and taxes on capital gains; 2) Market REITs' value is established using a net operating income and a cap rate; Market REITs are not subject to a maximum Debt Service Ratio; 3) Market REITs are capitalized using a much lower borrowing rate than a rate that individual developers would be able to secure from their financial institutions. We are proposing to hack this real estate instrument for the benefit of not for profits, charities, and co-ops in Canada and other geographies. This hack will provide them with access to capital that could be used to maintain their existing real estate assets and reinvest surplus equity into new assets. Other than strengthening the financial position of the sector, we are also looking to augment the collective governance and ownership mechanisms that form a key part of the existing culture of these entities. Why is that key? As we are facing more and more uncertain future, the collective decision making mechanisms that distinguish not for profits, charities co-ops from for profits will be fundamental. However, currently in Canada this sector is struggling. Based on the current research, close to 80% of these organizations are unable to raise needed capital to maintain their existing assets, which have traditionally been their only source of liquidity. As such, many of the organizations are selling their assets on the market, leading to real estate properties that are currently providing affordable rentals and office spaces for community group to be converted into market assets. This is deepening the already drastic affordability crisis as well as the community services crisis, and further fragmenting the co-ops and not for profits sector.

So how would the hack work? Establishing a Community REIT is not a complex legal or financial procedure, which is why we see it as an effective hack. Community REIT would be structured the same way as a market REIT from a financial mechanism perspective. It would be piggy riding on the same three benefits stated in the session above. We are especially taking advantage of one key market REIT structure: absence of requirement for a minimum Debt Service threshold. As long as the market REIT’ EBITDA could support the offered dividend rate on the annual basis, the investors are comfortable. The financial covenant that the market REIT is required to respect is a maximum debt to value ratio; however, the value of the assets is established based on comparable market cap rate rather than an individualized rate for a specific location or type of property owner. We would be using this same principle: establishing the value of Community REIT using a cap rate used for market REITs. In addition, we would be evaluating the properties as a portfolio, relying on the covenant of the underlying real estate assets rather than the not-for-profits , charities or co-ops balance sheets , which historically the financial sector has negatively discounted. From a legal mechanism standpoint, we will be looking to explore an idea of a hybrid legal mechanism that incorporates elements from Quebec approved Fiducie d'Utilité Sociale (Community Benefits Trust) and Indigenous REITS. We will be working with identified legal experts to create a legal structure that takes advantage of the same benefits as market REITs and yet preserves the collective governance model. We are specifically interested in Quebec Community Benefits Trust because (a) it is an outcomes based model rather than than a fixed Land Trust mechanism, which enables a Community REIT to optimize for climate outcomes in the future and own natural assets; and (b) it is being tested across different real estate portfolios in Quebec, including Société de développement Angus, which is in the process of transferring its real estate assets to the Fiducie d’Utilité Sociale as a way to seed the first Community REIT. In terms of practical next steps, we are looking to test the solution in Guelph Ontario, where we are partnering with 10C Shared Space (10C) : 10carden.ca. 10C has a deep history with community orgs in Guelph and together we have established a roundtable of groups that are open to considering transferring their real assets into a Community REIT in exchange for REIT shares. As such, a Guelph Community REIT would own a portfolio of community assets (residential & commercial). The value of Community REIT would be established by pooling together the Net Operating Income of each property and using a market REIT cap rate to arrive at an amount. The units of Community REIT would be offered to a variety of investors including members of pension funds and impact investors such as private family offices and foundations and as well as regular investors looking for a stable dividend rate. The capital generated from the Community REIT units would be used to maintain and repair the community assets, and cover the operating expenses associated with them including all orchestration costs. Any remaining capital would be put in an equity reserve, which use will be decided collectively by the organizations that hold REIT shares.  Community REIT could be a hack that translates well into UK context due to similar real estate market, existing challenges for not-for-profits to maintain and expand their asset portfolio, and the presence of investor appetite for market REITs. Specifically, we could explore the use of Community REITs with Camden Community Wealth Fund (camden.gov.uk) as well as Civic Square (https://civicsquare.cc/) in their neighbourhood model for retrofits.

In Canada, we are facing a multitude of crises including homelessness, alarming decrease of nature and biodiversity, and disappearance of affordable housing everywhere. Not for profits, charities and community organizations (together “the organizations”) are well positioned to address these emergencies due to their close collaboration with those directly affected by the problems, collective decision making processes and focus on the systemic long-term solutions. However, these organizations are experiencing a crisis of their own.  Many of them own assets that have historically been a source of equity, and enabled strategic investment of funds towards solutions that produce positive societal and climate outcomes. Over time, these real assets depreciated and required significant upkeep capital. This, in turn, depleted the organizations’ annual operating cash flow, leaving them often no choice but to put the assets up for sale.  Another challenge the organizations face is the high orchestration, community engagement and collective decision making costs that are necessary to mobilize public interest in order to make these assets meaningful for the community. All these orchestration costs are tangible and require funding to support them.  As a result, organizations that own tangible assets to which they add community value, often reach a point where they run out of liquidity. The sum of maintenance and repair for an asset as it ages, and the ongoing orchestration costs become higher than the organizations’ annual revenue. Recapitalizing these assets are difficult when done property by property basis. Financial institutions are still hesitant to lend to not for profits because of their ingrained requirement for the personal guarantees, which the organizations cannot provide. Community bonds take time and carry with them a constant requirement for refinancing due to the term of the bonds ranging from 3 to 5 years. More often than not, the consequence of such a situation is that an organization decides to sell its community asset(s). This has a detrimental domino effect since most affordable housing, permanent office spaces for charities, services for the homeless, as well as natural assets - all disappear once they are put on the market for sale. They are acquired by traditional for profit developers, which carry different objectives than the community organizations. In addition, organizations give up the only source of future equity that they had access to. As such, addressing this reality requires systemic solutions that preserve existing community assets and increase collective financial resilience. These solutions will open a pathway towards future capital investments into affordable housing, natural assets and permanent housing for the homeless. It is with the above in mind that we designed the Community REIT hack. The advantages of this idea are: 1. Generation of capital at scale from the national portfolio of community assets vs individual real estate holding of each organization, resulting in assets being well  maintained and remaining in community ownership.  2. Every organization contributing their assets into a Community REIT becomes an equity holder with the value of their shares representing their respective asset contribution.  Any equity surplus in a Community REIT would be decided on collectively, with potentially a part of it being put in a capital reserve and another part being distributed back to the share owners.  3. Orchestration costs being included as part of the Community REIT’ operating budget, thus enabling the organizations that carry them out to have access to annual funding. 4. Pathway to an acquisition strategy for a future ownership of other types of community assets including urban natural assets such as parks, biodiversity zones as well as permanent housing units for homeless.