The first stage of the EU’s Taxonomy Regulation will become effective on 1 January 2022. It includes the requirements associated with the first two environmental objectives, these being climate change mitigation and climate change adaptation. The European legislature has thereby created an instrument whose purpose is to make sustainability measurable. The new rulebook has significant ramifications for all AIFM companies (including German KVG) that manage real estate funds.

Here are the key changes: Going forward, the precontractual information of any investment fund that will pursue sustainability targets in future (Article-8 funds) or that is actively committed to more sustainability (article-9 funds or impact funds) will already have to specify the share of taxonomy-compliant real estate it will hold. Later on, the statements of account will have to report whether the set goals were indeed achieved. Funds that pursue no sustainability targets—also known as article-6 funds—must transparently communicate to their investors that these funds do not invest in taxonomy-compliant real estate. The EU lawmakers’ objective: Sustainable investments are supposed to attract more private capital.

Hannah Dellemann, the ESG Officer at INTREAL, commented: “The taxonomy is the centrepiece of the European ESG regulation. It represents a rather comprehensive set of rules that took a group of experts several years to draft. Despite its complexity, a number of open questions remain, which is reflected in a strong sense of uncertainty among market players.”

Taxonomy Specifications Cover Four Subject Areas

Which of the taxonomy contents refer to real estate? A group of technical experts worked out requirements in four areas: new construction, acquisition, renovation, and other services. Sustainability criteria have been defined for each of these areas. Dellemann commented on this subject: “An example from the new construction area are the specifications for the primary energy demand. The latter should be ten percent lower than the threshold values for ultra-low energy building effective in a given country. This aspect alone illustrates the issues besetting the taxonomy. No uniform national standards are in place for metrics like these. The problem is compounded by considerable differences from one property use type to the next.” 

Another example would be the requirements for acquisitions. A building completed before 1 January 2021 is considered to be taxonomy-compliant either if it has a Class A energy performance certificate or if it belongs among the top 15 percent of its class in terms of primary energy demand on a national or regional level. The problems that present themselves on the ground are evident here as there. How do you define the top 15 percent? Who decides what ‘regional’ means in this context?”

Michael Schneider, Managing Director at INTREAL, added: “The taxonomy is not a must-have requirement for launching an ESG investment fund, but an optional regime. An AIFM company could even launch an article-8 fund or article-9 fund without basing it on the taxonomy. Fund providers are at liberty to develop their own criteria. These must be backed by convincing and consistent arguments. Of course, the Federal Financial Supervisory Authority (BaFin) will take a hard look at them before any fund shares are sold. The market appears to be divided on the subject at this time. We noted one group of providers who apply the taxonomy and another group who define their own criteria. For certain asset classes, the latter is the only option because properties that meet the strict criteria of the taxonomy are still in very short supply.”

In addition, it needs to be remembered that the rule book becoming effective at the start of next year is only the first part of the taxonomy, covering just two of the altogether six sustainability objectives. These two objectives are climate change mitigation and climate change adaptation. The technical criteria for another four sustainability objectives are currently in preparation. These are scheduled to become effective on 1 January 2023, a year hence. The four objectives are the protection of water and marine resources (1), the transition to a circular economy (2), pollution prevention and control (3) and the protection of healthy ecosystems (4). 

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IntReal International Real Estate Kapitalverwaltungsgesellschaft mbH (“INTREAL”), Germany’s leading third-party AIFM in the real estate sector, is reporting significant growth in its business line of open-ended public property funds. Specifically, the company managed to increase the volume of open-ended property funds under its administration to more than 3.1 billion euros. This implies an increase by around 31 percent since the start of this year, when the total still stood at 2.1 billion euros (as of 31/10/2021).

Michael Schneider, Managing Director at INTREAL, commented: “The business line of public property funds is getting more and more important to us. Although it accounts for a share of less than ten percent of all administrated assets, and still represents a relatively small sub-segment for the time being, the growth outlook is excellent. We are currently in talks with several asset managers who would like to enter the segment. At the moment, we actually have one investment fund in preparation.”

Schneider went on to say: “The funds under our administration prioritise investments in residential, retail and healthcare properties. What these types of use have in common is that they have proven comparatively crisis-proof during the coronavirus pandemic.” The business line of AIFM services accounts for about two thirds of the total of 3.1 billion euros. In this field, INTREAL provides services to other licensed management AIFMs. Such services include complex administrative tasks like reporting, controlling (management accounting), fund accounting or equity investment management and risk management. The second major business line, which is partner funds, accounts for roughly one third of the volume of open-ended public funds. Here, INTREAL offers any service relating to the launching and administrating of alternative investment funds (AIF) to asset managers and property developers without an AIFM license.

INTREAL entered this line of business in 2015 by launching the FOKUS WOHNEN DEUTSCHLAND residential property fund. Today, the third-party AIFM administrates six public property funds.

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IntReal International Real Estate Kapitalverwaltungsgesellschaft mbH (“INTREAL”), Germany’s leading third party AIFM in the real estate sector, continued the dynamic growth seen during the opening quarter at the same pace in Q2. Having cross the mark of 40 billion euros in assets under administration (AuA) by the end of the first quarter, the company raised the total volume up to c. 42.7 billion euros by mid-year. This equals a growth by c. 2.1 billion euros since the end of the first quarter or by c. 4.2 billion euros since the end of the 2020 financial year (31 December 2020: 38.5 billion euros). During the months of April, May and June 2021, a total of 23 new investment funds were set up, which is four funds more than were launched during Q1. The number of assets administrated by INTREAL increased by 66 over the same period of time. By 30 June 2021, the third-party AIFM thus had a total of 237 funds and 1,749 properties under administration. In a parallel development, the total number of staff working for INTREAL in its branch offices in Hamburg, Frankfurt and Luxembourg grew to a total of 373 after 13 new employees were hired.

Additional Growth Impulse through Luxembourg Business Expected in Second Half-Year

Michael Schneider, Managing Director at INTREAL, commented: “If the performance we have seen so far continues, there is every chance that 2021 will become a bumper year for INTREAL, with substantial gains over 2020. In addition to the dynamic business development inside Germany, we anticipate additional growth impulses from our activities in Luxembourg, since we obtained our license as AIFM and central administrator there in April. In this division, we will move ahead with three new investment funds involving new fund partners as early as the second half-year. Despite the optimism, though, we should generally not lose sight of potentially ominous developments on the market, such as bottlenecks and price hikes for building materials, delayed completions, and the persistently strong demand for real estate investments which, of course, could cause the supply in available investment-grade properties to dry up. In addition, the ESG subject currently plays a big role for us and for our fund partners, too. It is planned to step up our efforts to integrate sustainability aspects in the investment strategies of virtually all new funds in future. Considering that the regulatory requirements are also beginning to be fleshed out, we hope that supervisory authorities will be quick to settle into the corresponding administrative practice. The latter aspect is important for setting up real estate funds whose sustainability effort goes beyond mere marketing angles.”

Numerous New Funds and Fund Partners in Either Business Division

The business of INTREAL essentially divides into two major business lines, these being partner funds, on the one hand, and AIFM services, on the other hand. In its partner funds business line, the third-party AIFM offers asset managers and property developers without AIFM license any service relating to the launching and administrating of alternative investment funds (AIF). In its AIFM services business line, INTREAL acts as the service arm of other licensed AIF management companies, taking care of complex administrative tasks like reporting, controlling (management accounting), fund accounting or equity investment management and risk management. While the partner funds division accounts for around 60 percent of the AuA, the AIFM Services division manages around 40 percent of the administrated assets. Both business divisions experienced dynamic growth during the second quarter. The AuA in the Partner Funds segment increased by c. 1.1 billion euros to 24.7 billion euros between April and June 2021. The number of funds managed in this line of business increased by 13, bringing the total up to 133 funds. Moreover, the company gained another four new fund partners during the period under review. The growth in AuA for the KVG Services business unit amounted to c. 1.0 billion euros during Q2 2021, bringing the total up to c. 18 billion euros by quarter-end. The number of funds for which services are being provided rose by ten, up to a present total of 104 funds as at 30 June 2021. New fund partners gained or previously integrated fund partners who launched new funds during the second quarter include Kingstone Investment Management GmbH, Belgreen Capital GmbH, d.i.i. Deutsche Invest Immobilien, the Fundamenta Group Deutschland, the GEG German Estate Group GmbH, HanseMerkur Grundvermögen AG and Palmira Capital Partners GmbH.

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Germany’s new Fund Location Act (FoStoG), which is expected to enter into effect in early August 2021, will bring more flexibility for open-ended public real estate funds in certain ways. It is particularly relevant for structuring real estate investments whenever these are indirectly acquired via property holding companies. Under a so-called two-tier structure, an option that investment funds sometimes use, a given fund owns a property company which in turn holds an interest in another property company. The actual property is owned by the latter. Such structures are usually chosen for tax reasons. Two-tier structures used to be permitted only for real estate located outside Germany. In future, they will also be permitted for real estate investments in Germany.

Michael Schneider, Managing Director at INTREAL, commented: “The new regulations increase the flexibility for investment funds. The competition for good property stock is very intense at the moment, which makes it important for open-ended public real estate funds to be able to act swiftly and to have the right to acquire various structures.” 

Shareholder loans will be relaxed further

The rules governing shareholder loans will also be relaxed further. Shareholder loans are granted by a given investment fund to its property holding companies. They are usually employed to optimise taxes and cashflows. So far, the borrowing cap here has been 50 percent of the fair market value of the properties held by the respective property company. This limit will cease to apply in future if the respective fund owns 100 percent of the property company’s shares.

Michael Schneider summarises: “At the bottom line, the Fund Location Act brings modest improvements for public funds. AIFM companies are getting more structuring choices, which implies various benefits, including tax breaks. The major and principal rules for public funds remain in place. This is true for the 30-percent debt financing limit and for the rules governing notice periods and minimum holding periods. The rules on concentration limits—concerning diversification, for instance, or the maximum share of property developments—remain unchanged as well.”

To merge investment funds will becomes easier

Another change is that it will becomes easier to merge investment funds. To move forward with a merger, the AIF management company no longer needs to submit a formal exchange offer but may simply merge the funds.

Michael Schneider elaborates: “The occasional merger of investment funds is nothing new. But AIFM companies have reason to welcome the new regulations because they reduce the red tape involved. From the investors’ point of view, however, the change means that they will have to look closely what a planned merger will effectively mean for them, and that they may wish to exercise their termination rights. But practically speaking, this aspect is probably more relevant for securities funds. The real estate funds currently offered on the market are comparatively diverse, which makes further mergers more or less unlikely at this time.”

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