A carrot over stick approach is needed to boost multifamily investment

Over the past week, notably large institutions and managers have announced build-to-rent residential ventures in Australia: Dutch pension fund investors APG and Bouwinvest partnered with Scape Australia principals for a A$1.5billion ($974 million; €913 million) joint venture in Australia; Brookfield also lodged its development application for its first BTR project in the country.

The timing of these announcements coincided with the Australian government’s introduction of significant incentives to encourage investment into the sector, including halving the withholding tax rate imposed on foreign investors in managed investment trusts to 15 percent from July 1, 2024.

With the majority of investment in BTR coming from overseas, the 15 percentage point tax cut is a huge step toward attracting more capital into the sector in Australia. Institutional interest in the sector had been longstanding, but the 30 percent rate made the sector less attractive than other asset classes that enjoyed a lower rate.

Globally, the residential sector has long been among investors’ top picks. In the first quarter, the strategy was the second most popular behind logistics, having garnered 38 percent of total capital raised, according to PERE’s latest fundraising report. Among the top 10 residential funds in the market, half of them are focused on the US, three on Asia-Pacific and one on Europe, according to PERE data as of May 5, 2023.

Australia’s reduction of withholding tax should see more managers launching new BTR vehicles in the country to take advantage of the evident capital demand.

Australian residential specialist Cedar Pacific, which is currently raising A$500 million for its latest BTR vehicle, is one of the managers that stands to benefit. Advisers familiar with the firm told us its network of offshore investors that would have previously hesitated to commit to the sector due to the high withholding tax rate are now more inclined to invest.

This ray of regulatory light is hardly widespread, however. The rise of more ESG-related regulation for the housing sectors in Europe, for example, was cited at last month’s PERE Europe conference as a factor creating uncertainty when pricing assets in the sector. In the UK, for example, the incoming Building Safety Act 2022 changes the fire safety design of buildings – just one instance of how a legislation change could become problematic to property owners.

In the US, regulation imposed by all levels of government accounts for an average of 40.6 percent of multifamily development costs, according to research by National Association of Home Builders and the National Multifamily Housing Council. The report noted 87.5 percent of respondents avoid working in jurisdictions with rent control. This means regulations are currently hindering much-needed investments in plenty of markets.

At the conference, one panellist explained how a changing regulatory environment would cause some existing residential assets to become institutionally unbuyable in the next 10 to 15 years as investors seek to adhere to increasingly stringent EU rules.

The importance of a favorable regulatory environment to attract foreign capital is reflected in the sector’s transaction volume. Despite being a sector in its infancy, around 80 percent of the current investment in Australia‘s BTR sector now comes from foreign institutional investors, according to Savills, a result supported by these policies.

Meanwhile, Europe’s BTR sector overall has seen a five-year average of 42 percent of its transactional total coming from foreign investors. Of course, conditions vary from one European country to the next; the policy environment in Denmark and Spain is more favourable for foreign investment than Germany, the Netherlands and Sweden, for instance. But the clear disparity between foreign investment’s share of total investment in Australia and Europe is stark.

While residential remains one of the most in-demand sectors for investment, a lack of incentivizing regulation is one of the factors creating supply constraints. Australia has demonstrated it does not have to be this way. The country’s regulators have set an example for other BTR markets to follow by showing that sometimes a carrot over a stick is a better approach.