The introduction of the forthcoming Escrow Account Law in Dubai will also take care of the interest of smaller property developers. It will be a win-win for everybody, writes Martin Saldamando.
One of the most important reasons that Dubai has achieved such dominance as a business centre is its resolute adherence to respecting commercial contracts. A signed contract is the basis for selling and purchasing anything. If you want to buy a home, or invest in property that is under construction, you will have to sign a sales contract.
It is the logical next step in Dubai to regulate off-plan sales of property by passing a Law on establishing a trust or security account to protect an investor's money during the construction phase.
Property investors should not misinterpret the purpose of the forthcoming Escrow Account Law. It does not secure registration of your title deed - only the sales contract does that. After the Law is enacted, investors must still make sure they understand what is, and what is not guaranteed to them in the sales contract - before they hand over their money.
The escrow account to be provided in the upcoming Law does not substitute for a fair and balanced sales contract. The new Law will make up for currently missing provisions, which once established, will protect the buyer in an off-plan property purchase.
"Consumer protection is a big issue for us," said Mohammad Sultan Thani, director of development and marketing administration at the Dubai Land Department. "The idea is that we need to have a way to safeguard the money of property investors, especially in the case of non-developed buildings that are under construction."
"At the moment, developers can use down payments acquired from off-plan unit sales, as well as monthly installments, for anything from promotions to advertising campaigns, rather than financing the actual construction costs," he said.
Buyers make payments directly to the developer, linked to specific dates, and not linked to milestones in the construction. Legal experts have been warning that if the developer were to go bankrupt, the buyer would have nothing except a contractual claim against the building contractor.
People need to be quite cautious when buying off-plan, as they may effectively be entering into contractual arrangements without the customary benefit of being able to see and assess the finished product.
Escrow is a legal way to deliver that money to a third party (an escrow agent) who holds the money (and any further payments) in a separate bank account, until settlement of the conditions in a contract, such as transfer and registration of ownership.
Once the conditions in the contract are fulfilled, the escrow agent delivers the money to the seller, and if not fulfilled then the agent is bound to keep the money in the trust account until they are.
While escrow is new to the Dubai real estate industry, it is well known in the trading community. Escrow accounts are commonly set-up in contracts where the stakes are high, for example transactions involving the multi-million dollar sale and purchase of businesses and technology.
In the US, escrows are used in the completion of person-to-person remote auctions such as eBay. Business portals (like alibaba.com) use escrow accounts to facilitate international trade between companies sourcing and selling commodities for shipment worldwide. Mortgage companies establish escrow accounts to pay property tax and insurance during the term of a mortgage.
Lawyers are regularly appointed as escrow agents in contracts to secure high net worth transactions, and in the UAE any law firm will set up an escrow account as one of the provisions of a commercial contract, if instructed to do so by their client.
According to Ahmed Abdul Raheem Mahmoud, legal consultant at Emirates Advocates, "The UAE is a multi-cultural commercial market, and there are diverse tolerances to risk. Some buyers want the added protection for their money, and some sellers insist on working through an escrow account to provide guarantees to their clients."
"Acting as an escrow agent, our role is to facilitate the purchasing process. We verify that the steps are made as per the agreement between the buyer and seller, translate documents, review them and inform the parties. When all is completed as per the schedule then we transfer the monies to the seller," he said.
"We charge two fees one for banking charges and one for our professional services," he said.
Regarding who pays, he said: "Sometimes the buyer pays and sometimes the seller pays, it depends. If the buyer approaches us for protection - then we charge the buyer. In the case of a property developer, who may be advertising the opening of an escrow account on behalf of their buyers, it is the developer who would pay the fees."
Another lawyer, Bachir Nawar at Habib Al Mulla & Company in Dubai said: "We regularly draft escrow agreements into plot sale and purchase agreements for developers who are purchasing plots of land. The major reason for having an escrow agent is to ensure that cash is always handled by intermediaries."
Having a lawyer involved adds another value, which is their ability to review the contract and any changes to it later on and give advice. Such advice is very useful in pointing out restrictive clauses in contracts. Of course, this advice may only benefit the party paying the lawyer's fees.
According to Walter Hart, director of project sales & marketing at Better Homes, "Typically, in my experience in South Africa and in other countries, the escrow account is set up by the property seller for, and on behalf of, the buyer. The costs are normally carried by the seller because typically they see the advantage to selling their property in having the escrow account set up."
"In most countries the Escrow account is actually held by a bank (and this would be a well established reputable bank) but - for example - in South Africa, lawyers would be responsible for holding the funds in a "Trust Account " which is a similar vehicle and which is protected by law," he said.
From the information available so far from the Dubai Land Department, it is clear that the forthcoming Escrow Account Law will be primarily concerned only with protecting investors who purchase property off-plan.
The new Law will specifically set up an escrow account, which will be a bank account under the management of the Dubai Government.
Funds will be released to the developer from that escrow account depending on the stage of completion of the project. Developers will have to satisfy certain conditions in order to get the money.
Originally, it was first reported that the monies would only be released to the developer upon final completion of all of the construction, and also only once the registration of the property is made in the name of the buyer.
"The downside for developers would be that they would no longer be able to rely on using initial sales deposits and early payments from buyers to fund the construction of the building. Many developers in Dubai in the last three years have only been able to build by using the buyers' initial payments as they have not been able to raise construction finance, or did not wish to do so to save on interest charges," said Hart.
However, it now seems the Law will be adapted from this original approach, taking into consideration the feedback given to the Dubai Land Department by smaller property developers.
"Small developers have told us that the law will deny them the money they need to get projects underway, and will significantly slow their construction progress," said Thani.
"We recognise that this will severely hinder market growth so we are considering a system where funds would be released in stages, according to the progress of the building," he added.
Regardless of the final form the Law will take, what investors need to understand is that title ownership passes to them by way of a valid contract as the main factor. In recent court cases involving property transactions the main factor the UAE courts used to determine the title ownership of a disputed property, was the existence of a valid contract between buyer and seller.
"The whole purpose of establishing escrow accounts is to focus on building confidence and to build long-term relationships, and not on guaranteeing the end result," explained Nawar.
An escrow account provides buyers and sellers a comprehensive way to evaluate business partners, build relationships, and transact. It does not substitute for the validity of a fair and balanced contract, especially in the unlikely event that there is a dispute.
Once the Law is passed, buyers should still examine and negotiate the terms of their sales contracts carefully. They should understand the nature of what they are signing. Buyers who are not sure, should get legal advice.
For example, consideration should be given to whether there are any penalties for withdrawing from the contract.
Other questions one might need to ask could be:
Can I make changes to the finishes in the kitchen and bathroom?
Can I select appliances such as stoves and dishwashers and items such as floor and wall tiles?
Can I visit the site during construction?
If the building is finished earlier than expected, has finance been suitably arranged?
The benefit to having a lawyer involved is that they can check the conditions of the contract and give legal advice on the benefits or restrictions provided by the terms of the contract.
© UAE MONEYworks 2007
