What is the usual legal due diligence process that is undertaken when acquiring commercial real estate?
Real Estate (3rd edition)
Depending on the degree of commissioning, only red flags of a transaction or a comprehensive review can be carried out as Legal Due Diligence. The aim is to identify issues and solve by way of appropriate hedging in the contract, or to detect possible deal breakers.
For asset sales of commercial registered real estate a buyer's due diligence will cover
- Review of title documents and documents from the public land register (purchase contract, donation contracts, easements, real estate charges, etc)
- Review of lease agreements (depending on the type of property and the buyer's plans)
- Review of public law situation of the property with regard to zoning, permits, contamination, and
- Examination of other documents, such as contracts for construction of buildings, judicial or administrative disputes, insurance of the object, and all other legal issues that arise within the scope of the due diligence.
If a property is acquired through the acquisition of a company as a share deal, the company is also subject to due diligence. The duration of the legal due diligence depends on the scope and availability of the relevant documents.
A legal due diligence is common implemented in order to assess if (i) owner holds full title and possession of the property; (ii) the real estate is free and clear of liens, burdens, and encumbrances and debts; (iii) there are any restrictions with regards to the use and occupancy (including but not limited to easements, third parties’ rights, etc.) of the property; (iv) there are any disputes over ownership or rights to real estate, or access rights or any other matter that may affect possession to the property; and (v) if there are any pending tax, environmental, zoning and licensing matters that should be considered for the deal.
7.1 There is no universally accepted market standard of due diligence when acquiring real property. It is the purchaser’s responsibility to conduct whatever due diligence it may deem prudent in the context of the transaction, with very little (if any) contractual warranties customarily offered by a seller and extremely limited scope for title insurance (save in respect of very large commercial transactions).
7.2 While the feature of indefeasibility of title is backed by a state indemnity, there are many exception.
7.3 The purchaser’s attorney should at least:
(a) review the title documents (i.e. a copy of the land register for the subject parcel and any connected or superior interests (e.g. the strata common property or the landlord’s title), together with a copy of all instruments noted on the title, a copy of the registry map and, if the property is leasehold, the lease and other ancillary documents);
(b) where the property is subject to leases, review those leases;
(c) raise enquiries with the seller. While there is no industry standard, these enquiries should at least ask about the state and condition of the property, disputes, compliance with laws, existence of unregistered adverse interests, boundaries, services etc. as well as any bespoke enquiries arising from the purchaser’s attorney’s wider due diligence; and
(d) consider raising additional enquiries with public and other bodies, such as the Lands & Survey Department, the Department of Planning, the Department of the Environment and relevant utility providers. The scope of such additional enquiries will depend on the nature of the transaction and receiving replies to such enquiries can take several weeks.
7.4 It is relatively uncommon for real property to be sold by way of transfer of the entity or structure through which it is held. In such cases, the process is typically the same but with the usual additional due diligence in respect of the relevant entity or structure.
7.5 Where the purchase of property is financed by external debt, the lender will usually have its own requirements for due diligence, including a report on title and legal opinion.
The lawyer of the purchaser carries out an initial investigation for due diligence purposes.
On the title of the immovable property, the basic information is stated, for example the location and position of the immovable property, its size, the name of the registered owner, the rights and burdens associated with the title etc
The name of the registered owner must match the name of the seller, unless the registered owner has a special legal relationship with the seller which enables the seller to proceed with such sale. In such a case documentation and information describing such legal relationship must be provided to the purchaser’s lawyer by the vendor’s lawyer for examination. Furthermore, if the registered owner of the immovable property is a legal entity a search is carried out the registrar of companies for information in relation to the entity.
In case that the Vendor is the registered owner of an undivided share of the immovable property and not of the whole share of the proeprty, the vendor’s lawyers will be asked to clarify whether there is a division and distribution agreement between the Vendor and the co-owners.
Once the identity of the registered owner is known and the right of the Vendor to sell has been proven, the purchaser’s lawyer requests the vendor’s lawyer to obtain a search report from the land registry which will show any encumbrances on the immovable property
When there are or there will be buildings on the immovable property, the purchasers’ lawyers request from the Vendor’s lawyer to provide copies of the planning permit, the building permit, the certificate of approval and the official plans of the buildings. Some purchasers choose to appoint a civil engineer or an architect to inspect the buildings and check whether the permits and official plans correspond to the actual buildings on the immovable property. When the building is under erection, some purchaser appoint a civil engineer or an architect to observe the building works and give them reports.
The Vendor has also the obligation to provide the purchaser with “the energy performance certificate” in relation to the building.
It is customary for a buyer to carry out a legal as well as financial, tax and technical due diligence review before acquiring a property. In most transactions of a material size, the parties will enter into a non-binding term sheet in order to outline the parties’ commercial understanding and to determine the time frame available for the buyer’s due diligence review. It would be customary that the buyer is granted exclusivity in the period agreed for due diligence review. For such purposes, the seller would collect and establish a virtual data room containing relevant documents for the buyer’s review. Usually, the buyer submits requests to the seller based on material uploaded into the data room. In general, a seller has a duty to disclose material information and documents to the buyer (duty of loyal disclosure).
After the due diligence review has been completed, the buyer’s legal advisors prepare a due diligence report to the buyer and the conclusions will be used for the purposes of negotiating the terms and conditions of the asset or share purchase agreement (as the case may be).
Since French notaries are liable of the efficiency of the transfer of ownership of a real estate property and the certainty of the ownership, the notary appointed by the purchaser is in charge of reviewing the previous title deeds, the easements and encumbrances registered on the property.
Notary's due diligence is usually extended to the review of the planning permissions and, when applicable construction guarantees and insurance coverage.
Most of the time, the legal advisor of the purchaser will review the lease agreements and the contracts relating to the management and maintenance of the property.
The due diligence will also include the review of all the searches and surveys that sellers are bound to provide to purchasers under French law such as asbestos search and diagnosis for any buildings erected by virtue of building permits granted before 1 July 1997, termites and other xylophage insects surveys, energy-efficiency audit (diagnostic de performance énergétique), the statement indicating whether the area where the property is located is known as being exposed to specific technological or natural risks or pollution, etc.
The purchaser will also appoint consultants for carrying out technical survey and, if useful, pollution search.
For asset sales of commercial registered real estate, the buyer's lawyer will typically:
- review the title documents (i.e. a copy of the land register for the property, any encumbrances on title, the public building charges register) and establish the boundaries and assess superstructures to/from neighbouring properties if any;
- where the property is subject to leases, review the leases (though the extent of this review will depend heavily on the nature of the property and why the buyer is buying the property);
- review a public law situation of the property as concerns zoning, permits, compliance of buildings and uses with applicable law, outstanding charges and the like as well as information on contamination of the property; and
- raise further enquiries and make additional document requests to the seller concerning disputes, copy rights of architects, agreements pertaining to the property that the buyer wants to assume, issues in relation to ongoing works at the property (if any) etc., and evaluate any other matters arising from the wider due diligence.
Such due diligence process can take several weeks (particularly as some of the key searches can take several weeks to be produced if not available in a data room) and may prove to be expensive depending on the size of the property and it legal complexity. Proper due diligence is important though as sellers in Germany do not generally make representation and warranties regarding the condition of the property or other issues that can be review in a customary due diligence process. In certain cases (such as where the seller is selling complex or numerous properties via a competitive bid process), the seller may decide to instruct its lawyers to prepare a due diligence report by itself in order to speed up the sale process or to avoid numerous bidders having to carry out the same due diligence.
Where a property is sold by way of a transfer of the shares in the entity or entities by which such property is held, the process is generally the same but with additional due diligence in respect of the relevant entities.
Where the purchase of a property is financed by external debt, the lender will often require a copy of the due diligence report of the buyer's lawyers (and/or a separate one by the lender's own lawyers) on which it may rely.
The buyer shall appoint a lawyer to perform a thorough legal due diligence of the property prior to proceeding to the execution of any deed or agreement. Legal due diligence is performed with the Land Registry or Cadastre of the region in which the property lies. Greek notaries are not obliged to (and will not) perform such a due diligence.
Property due diligence typically involves:
- a review of the deeds recording acquisition for a minimum “20-year lookback period” (the period required to acquire property by usucaption or adverse possession). Such period is commonly longer extended for precautionary purposes;
- verification of the sequence of transfer transactions and the respective registration of title deeds with the competent local land register or cadastral office to:
(a) confirm that the proposed seller or any predecessor in title has not disposed of the property; and
(b) determine any registered liens (mortgages or prenotations thereof);
- a review of the property’s planning and zoning status and confirmation of its location and dimensions;
- a review on possible forestry and/or archeological restrictions;
- a similar review of buildings and structures (including building and similar permits and compliance with applicable legislation); and
- a review of leases and financing or other contracts, if applicable.
Technical due diligence is performed by a civil engineer and aims to ensure that the property meets all legal requirements for the construction of buildings to be allowed and, in cases where the property to be purchased is already built, to determine whether the already existing building(s) include any illegal constructions which must be legalized according to the relevant laws. Even in cases where the property does not include any illegal constructions, the transfer may be performed only after a civil engineer certifies in writing that it does not include such constructions.
The minimum prerequisites for the transfer of ownership of real estate are:
(a) signing of a relevant notarial deed by the contracting parties, describing the property, the price and possibly other terms. According to the law any agreement pertaining to the conveyance of a real property right should be in a notarial form;
(b) registration of such deed with the competent Land Registry/Cadastre.
In the context of a real estate transaction, the seller provides representations and warranties to the buyer with respect to the non-existence of any actual or legal defects over the asset. More specifically, such representations and warranties confirm, inter alia, the full and undisputable title over the asset, the absence of any liens or encumbrances and of any third-party claims, compliance with town-planning, environmental, forestry or archaeological restrictions and that all necessary permits and licenses have been duly issued and are still valid and in force etc. Additional representations and warranties may be given depending on the type of the asset and its particulars (for instance location and permitted use). The seller’s liability for the warranties and guarantees can be mitigated by the buyer’s lack of diligence in checking the legal and actual status of the property being transferred.
There is also a number of additional technical and tax requirements which should be observed for the validity of the real estate transaction, such as:
Payment of the corresponding transfer tax.
Issuance of a certificate evidencing that there are no outstanding dues for Real Estate Unified Ownership Tax (ENFIA) (i.e. a real estate property tax).
Further, a series of additional certificates are required to be issued prior to the conclusion of any real estate transfer as the notaries safeguard proper compliance of real estate transactions with all sorts of regulatory requirements surrounding real estate property such as zoning, planning, forestry, coastline. For instance, a so-called “energy performance certificate” upon the time of completion of the building’s construction or renovation is provided by Law 4122/2013.
The seller may be liable to the buyer under: (a) Civil Code sales’ provisions from breach of warranties and representations; (b) relevant provisions of the Greek Civil Code on defects; (c) negotiations; (d) tort provisions when knowingly making false declarations, which may also result in criminal liability. The enforcement of the above provisions may result in claims for compensation, annulment of the contract, or reduction of the sale price.
For asset sales, legal due diligence by the Advocate / Solicitor for the buyer will involve:
- Review of title deeds: Inspection of original documents, if available, to ascertain their terms, whether they have been registered if compulsorily registrable, whether there is any “mortgage by deposit of title deeds” or any claim or lien on the basis of custody of original title deeds. The terms of any lease or grant under which the property is held are required to be considered to ensure that there is no breach of such terms.
- Searches in the office of the Sub-Registrar of Assurances, usually for the previous 35 years, for ascertaining whether, apart from documents provided for inspection, any other document or notice of lis pendens has been registered (since registration operates as notice of the registered document to the public).
- Online searches for charges on properties of limited liability companies registered with the Registrar of Companies, online searches for information available in the public domain like status of litigations, disqualification of directors.
- Consideration of revenue records relating to the property.
- Publication of a public notice in two local newspapers inviting claims within 15 days of publication and stating that thereafter the transaction will be completed any claims which are not notified within time will be considered as waived.
- Requisitions / inquiries with the transferor, including about any third party claims, oral or written agreements, past
- Consideration of the survey report / plan of the property showing its area, boundaries and construction thereon.
- Consideration of whether, apart from the transferor, permission of any other person or authority, such as the landlord/lessor, Government, mortgagee, co-operative society or owner of adjoining land providing access to the property, is required.
and pending litigations, attachment orders, income tax proceedings, persons in occupation of the property.
The extent of due diligence will depend the on asset under investigation. In case of purchase of a plot of land with or without buildings, it will have to be extensive. In case of purchase of a leasehold asset, the due diligence may start from the lease deed. In case of premises proposed to be taken on lease or leave and license for a limited period, public notice may not be issued.
To ensure consistency in drafting and avoiding protracted negotiations, the Law Society of Ireland produces a pro forma contract for sale for use in real estate transactions, which is designed to give a fair balance of rights between buyers and sellers.
The contract for sale
- contains a memorandum of the agreed terms of the sale (parties, price, description of property, and completion date),
- lists the documentation and searches to be provided by the seller, and
- incorporates the Law Society of Ireland General Conditions of Sale (the “General Conditions”). The General Conditions make a number of assumptions about the property and place certain disclosure obligations on a seller, which the seller can only exclude by inserting special conditions. This way, the buyer is on notice of any deviations from the standard contract. The General Conditions were updated in 2019 for use in respect of transactions commencing on or after 1 January 2019.
By virtue of the General Conditions of the contract for sale the seller gives various contractual warranties in respect of the property for sale. It is typical for a seller to limit the scope of warranties through the careful drafting of special conditions in the contract for sale, in particular for commercial property and where the seller’s knowledge of the property is limited, for example, a sale by a receiver, liquidator or mortgagees. Despite the existence of warranties, a prudent seller (or his legal advisers) will still carry out his own due diligence of the property as the principle of caveat emptor is at the heart of commercial property transactions.
There are typically implied covenants as to ownership contained in a purchase deed but there is no form of title warranty. However, a buyer’s lawyer will investigate the seller’s title to the relevant property to ensure a buyer will acquire a good and marketable title. The 2019 General Conditions require the buyer to investigate and satisfy itself as to the title to the property pre-contract. The buyer’s lawyer also carries out a number of searches against both the seller and the property. The seller must explain and/or discharge any adverse matters resulting from the searches which affect the seller and/or the relevant property before the completion of the sale can occur.
In practice, legal counsel generally review important agreements (such as lease agreements, property management agreements, etc.), reports (appraisal reports, engineering reports, soil reports, and disclosure statements explaining the important points of the property), and documents (certificates of registered matters) regarding subject property to check whether there is any material issue that would prohibit the purchaser from acquiring the subject property.
The scope of legal due diligence (“DD”) typically includes a review of rights on the target property, tenants and lease agreement, any other related agreements regarding the property (including property management agreement), regulations applying to the property, lawsuits, and other similar issues. Although the scope could differ depending on the cost and characteristics of the target property, it is essential to review the certificate of registered matters (please refer to Question No. 2). Where any issue is found in the reports, legal counsel generally proceed to investigate the issue in detail from a legal perspective.
DD generally proceeds with the following steps. First, it is necessary to determine the scope of the legal DD. Information regarding the target property is then provided to the potential buyer subject to the NDA or LOI to be provided. In some cases, question and answer session would be scheduled between the seller and the potential buyer. The potential buyer decides whether to proceed with the transaction based on the outcome of the legal DD.
Legal due diligence of a commercial property would include:
- carrying out an official search on the title to the property;
- confirming whether the permitted use of the property is in fact commercial;
- obtaining copies of building plans and the necessary approvals, including local authority approvals and environmental approvals;
- conducting a search on the proprietor of the property e.g. applying for a search on the company where the property owner is a company; and
- establishing whether the property stands on a restricted area e.g. a road, reserve or a riparian reserve. A surveyor in consultation with the necessary authorities would undertake this. In addition, a surveyor can be engaged to confirm that all beacons are in place.
- Confirming whether or not the property is listed in the Ndung’u Report on irregularly or illegal acquired land.
- Trying to obtain as many copies of documents from the registered proprietor or the lands registry (where the records are public) that would provide a history on the property including the various transfers and other transactions that have taken place.
Due diligence process in commercial real estate transactions is usually carried out by counsel acting for the buyer with the support of technical teams in environmental matters. It typically includes an environmental study and a title report. For title reports, a search in the Public Registry is necessary. The search and report product of the due diligence process usually covers the following standard issues:
- Permits, licences and authorizations (including environmental matters) required for the real estate. Official documentation relating to the property location and approved land use.
- Material agreements with respect to real property, including project and corporate financing and collateral agreements.
- Limitations on land use imposed by zoning ordinances, urban development regulations, governmental authorities (i.e. concessions, federal zone limitations, etc.), or private agreements (usufructs, easements, covenants, etc.).
- Limitations on refurbishment, demolition or rehabilitation of constructions for historical, cultural or artistic reasons set forth in the local development plans or other applicable laws.
- Liens and encumbrances affecting the real property, as well as pending claims against the real property by third parties (generally identifiable through a lien certificate – certificado de libertad de gravámenes).
- Limitations or requirements according to covenants over real property
- Agrarian or “ejido” interests (generally identifiable through an agrarian certificate – certificado de no afectación agraria).
- Municipal assessments for public improvements and property taxes.
- Existence of condominium regimes or owners’ associations.
- Rights of third parties in possession (i.e. adverse possession).
- Long-term leases and their amendments as well as evidence of rent payments.
- Unpaid taxes and utility charges, fees or rights (i.e. water and electricity).
- Evidence of property tax payments, corresponding to the last 5 years and tax account numbers of the property.
- Concession Titles for use of public property, including beachfront properties (Federal Zone), or water extraction, if applicable.
- Management Agreements or Service Agreements, if applicable.
- Encroachments on third party or governmental properties
- Summary of claims, suits, or arbitration proceedings against the Property, including any expropriation procedures or governmental forfeiture procedures for illegal acts (as from the Ley de Extinción de Dominio).
Due diligence process includes counsel’s opinion on different records and other elements necessary to ascertain any potential risks for the transaction. Moreover, it is appropriate to perform technical assessments on the real estate prior to closing to ensure compliance with Mexico legislation (i.e. environmental, geological, and topographical due diligence). Costs associated with due diligence include notary public fees and costs associated with the appraisal of the property, public registers and archives duties where relevant documents are obtained from.
Due diligence is always recommended for commercial real estate and the forms will vary depending on the characteristics of each transaction; although there are no specific forms, buyers require between 30 and 120 days to carry out the due diligence process.
Sellers of commercial real estate usually provide limited warranties, which are related to: (i) legitimate ownership and title over the real property (marketable title at closing); (ii) absence of liens and encumbrances; (iii) payment of real estate taxes and utility charges or fees; (iv) absence of environmental liabilities; (v) absence of legal procedures that could materially affect the property or that involve due title to the property; and (iv); absence of false statements or material facts. Therefore, buyer’s due diligence process is essential to determine the legal and physical condition of the real estate and assess risks efficiently.
Additionally, under civil law the buyer is protected with a statutory indemnity (“saneamiento para el caso de evicción”). If buyer is evicted due to a judicial decision arising from a third party claiming superior rights over the land (i.e. absence of seller’s title), buyer is entitled to recover damages from seller.
Legal due diligence in respect of the acquisition of commercial real estate is generally operated by the purchaser and its counsel(s) in collaboration with the notary who will prepare the deed of sale to be signed.
The process to be undertaken includes the review of the full excerpt from the mortgage registry which will provide all necessary information regarding the ownership (historical of the real estate to be acquired, implantation, mortgages, easements, and liens). It will also include a complete review of all laws and regulations applying to the commercial real estate, in particular in respect of possible restrictions which would not appear on the excerpt (e.g. environnemental, renting subject to specific law, etc.).
The process will also require the review of all agreements (e.g. insurance, lease agreements, etc) entered into by the seller which will be transferred to the purchaser as part of the purchase of the commercial real estate.
The due diligence process could also extend, when the real estate was recently built up, to the review of the contracts between the seller and the contractors (architect, engineers and/or construction companies) as well as insurance coverage, as all guarantees still pending will be transferred to the benefit of the purchaser.
A legal due diligence exercise undertaken in view of property transactions involves assessing the following main areas (examples): (i) validity of title; (ii) lack of encumbrances, including restrictions imposed under legal provisions (e.g. related to archaeological sites, military units, pipes, etc.); (iii) urban planning parameters, validity of building permits and related endorsements; (iv) validity of the applicable urban planning documentation, (v) validity of operating permits for future business activities (e.g. fire permits, sanitary permits, etc.), (vi) lack of restitution claims pursuant to the special legislation of properties’ restitution, (vii) validity of land book registrations of the property, etc..
The validity of the seller’s ownership title over the properties is confirmed by checking the seller’s current title as well as the chain of title for all the transfers of property back to the original owner or back in time to the available documents, since any potential nullity/flaw in a deed in the chain of ownership may have an impact on the validity of the seller’s current ownership title.
On a general note, it is recommended that, aside of the legal due diligence, investors should also consider performing other due diligence exercises, such as an environmental, technical and cadastral due diligence, also depending on the purpose of the project.
Legal due diligence of real estate assets typically covers such matters as:
- Due diligence of the seller’s legal title. The primary source of information in this regard is the excerpt from the public register of real estate. However, since the public register is not sufficiently reliable, extensive due diligence of the whole history of title generally has to be undertaken. Further, generally all possible encumbrances and pending disputes that may result in the challenging of the ownership title are analyzed.
- Due diligence of regulatory and environmental matters. During this phase, information from the authorities on land category and permitted use, restrictions on the use of the land plot, territorial zoning documents and city planning documentation are obtained. Neighbouring land plots and safety zones of nearby facilities, such as pipelines, electricity lines and hazardous production facilities, are also reviewed to ensure that land plot can be lawfully used for the buyer’s intended activities without regulatory restrictions.
- Due diligence of construction matters. When buildings, structures and premises are purchased, documents in respect of the building’s construction (construction permits and other special permits when applicable, commissioning certificates, state approval of the design documentation, etc.) are reviewed to minimize the risk that the real estate object is forcibly demolished as an unauthorized construction.
- Due diligence of infrastructure. Access to public roads and availability of utilities (or the possibility of connecting to utilities) has to be verified in advance, since in Russia connection to utilities and/or the establishment of road infrastructure in some areas may be extremely burdensome and expensive.
In Slovenia, a buyer typically commissions a law firm to conduct thorough due diligence regarding the property in question. This is done primarily by examining the electronically held and publicly accessible records (Land Register, Land Cadastre, Building Cadastre, etc) and, if necessary, by cooperating with other government bodies (eg, to verify that the real estate in question is not an object of restitution).
During a due diligence process, a lawyer customarily also reviews all ownership transfer, easement, mortgage, brokerage, service, loan, facility, property management, insurance, construction and lease agreements and any other type of agreements and permits (such as construction and fit-for-use permits) that might be necessary given the property in question. Also, due to the nationalisation of private property in the 20th century and the subsequent return of said property, a lawyer usually also examines the existence of any potential restitution claims and other circumstances that might jeopardise the buyer’s ownership title.
The normal procedure for acquiring a property, especially when dealing with complex transactions, tends to commence with certain preliminary documents reflected in a document known as a letter of intent ("carta de intenciones"). Through such document, the parties, without binding themselves, state their will to enter into negotiations and outline the timeframe and the terms of the due diligence process. Despite the fact that letters of intent are usually prepared as non-binding documents (except for certain specific clauses such as, for example, those on exclusivity, confidentiality and non-competition), the breach of such preliminary agreements may give rise to pre-contractual liability for the party which unjustifiably breaches the agreements and causes damage to the other party which was relying on a future agreement (provided the breaching party has induced the non-breaching party to believe it was committed to completing the transaction).
Subsequent to the letter of intent, it is common practice for the purchaser to carry out an audit on the property, to review legal, technical, environmental, commercial aspects, etc., depending on the type of real estate asset in question.
The legal audit of a property is based both on the documentation provided by the vendor, usually through a virtual data room, as well as the verifications made by the purchaser's lawyers in public registers, city councils, cadastral registers, etc. Two typical documents that are obtained from public registries and city councils in a legal due diligence process are as follows: (i) Land Registry extracts (the cost is not significant and it takes around 2-3 business days), and (ii) planning certificates (the cost is not significant and the time to obtain them depends on each municipality but it can be a lengthy process (e.g. three months)).
The legal due diligence generally covers the following aspects:
- title and charges;
- lease agreements;
- third-party rights;
- condominium of owners;
- urban development aspects: planning status and licences;
- contracts related to the property (construction, supplies, maintenance, insurance, management, other services, etc.);
- judicial or administrative proceedings related to the property;
- municipal taxes;
- payment of service charges and other costs;
- intellectual property matters.
The legal due diligence is normally carried out by the purchaser's legal counsel (i.e. the Notary does not carry out the due diligence). However, in certain cases (such as when the vendor is selling complex or numerous properties via a competitive bid process), the vendor may decide to instruct its lawyers to prepare a due diligence report in order to speed up the sale process or to avoid numerous bidders having to carry out the same due diligence. In this case, the vendor's lawyers may issue a reliance letter on the due diligence in favour of the purchaser.
Where a property is sold by way of a transfer of the entity or structure through which it is held, the process is typically the same but with additional due diligence regarding the relevant entity or business (including all corporate, tax, employment and financial matters, contracts with third parties, etc.).
Notwithstanding the due diligence which may be carried out by the purchaser, it is standard practice for the vendor's legal liability (which only covers title and hidden defects) to be replaced by a series of contractual representations and warranties provided by the vendor in favour of the purchaser. Such representations and warranties are often qualified by the information disclosed during the due diligence process and also limited as regards the term and amount.
The legal DD normally includes all company and real estate information and any information on disputes or litigation and similar matters, excluding tax and VAT, financial issues and technical or environmental issues (unless it concerns disputes or similar issues). Typically, M&A and real estate lawyers conduct the legal DD. There is a great variety in scope and thresholds, as well as reporting format, depending on the individual client’s needs. Usually, international investors and Nordic institutions request full DD, while Swedish real estate companies and private investors normally complete parts of the DD themselves, with their own personnel. Other specialists involved, except for lawyers, are accountant firms, corporate finance houses and technical or environmental consultants. Normally, more thorough DD activities are initiated at quite a late stage of negotiations, after agreement on exclusivity or some kind of cost coverage by the seller, since DD will drive costs for the buyer.
On certain occasions, the seller initiates vendor DD, in order to introduce and organise the data room in an effective manner and in order to reduce the need for buyer DD, but more often in order to clean up the company or property documentation or information to be presentable to investors.
Information on title, bankruptcy, litigation etc. is normally found in the data room presented by the seller, as supported by representations and warranties relating to the accuracy of the data room information and independent searches by the buyer in public registers or information. Title issues rarely occur regarding commercial properties in Sweden. The Land Registry provides online information on title to real estate, supported by the government. In addition to this, full DD is normally conducted with regard to title to shares with uncapped representations and warranties by the seller to support this position.
When acquiring real estate, it is advisable to pay attention to the legality of the current operation regarding ownership, rights or lease of such real estate to ensure the success of the acquisition with legal risks being minimized as much as possible.
As an illustration, in acquiring land plots, the usual due diligence will cover:
- Title deed review – it provides necessary information of the owner, the former owners, areas, address and most importantly – whether it is subject to security of any kind or subject to any kind of rights, for example servitude.
Where the title deed of a land plot reveals that it is subject to mortgages or other jus in rem (right in property) – relevant agreements registered with the land office will be requested for a review.
It is also usual to request to review, at the land office where such real estate located, a sheet of land plots to verify boundaries and determine whether a land survey is necessary.
- Agreements with regard to such real estate – lease agreements and registration with the land office application.
- Licenses/permits for (1) building construction permit and building construction certificate (if applicable under the Building Control Act 1979) which provide details and type of the construction, including the owner who requested the construction; (2) business-related licenses, for example a factory license under the Factory Act 1992, a license to establish a market under the Public Health Act 1992 – the qualifications and terms of which will help us verifying compliance by the owner with relevant regulations and potential legal risks; and (3) other licenses which give the owner of the real estate certain benefits/privileges, for example a BOI certificate.
- Zoning – location of the real estate will be reviewed whether its usage is in compliance with Town Planning Act 1975.
It is not mandatory however purchasers usually prefer to conduct due diligence of legal, financial, environmental and technical matters concerning the transaction, especially regarding real estate property acquired for investment in industrial and commercial activities, and high-value property. Due diligence typically involves analysing:
- Public registries to verify title and charges on the real estate.
- Leases over the real estate (including the lease term and its enforceability, grounds for early termination, rental payments, rent reviews and other obligations).
- Zoning plans of the land at the relevant municipality.
- Any licences over the real estate at the relevant municipality, such as construction licences.
- Town planning rules applicable to the real estate, status of licence granted to operate the property, and compliance of licences with town planning rules.
- Tax obligations of the property.
- Environmental aspects of the real estate.
The outcome of the due diligence review facilitates whether to realize the acquisition, and determining the seller’s representations and warranties, should the transaction proceed.
For asset sales of commercial registered real estate, the buyer's lawyer will typically:
- review the title documents (i.e. a copy of the Land Register for the property, any land agreements noted on the title and, if the property is leasehold, the lease and other ancillary documents);
- where the property is subject to leases, review those leasehold interests (though the extent of this review will depend heavily on the nature of the property and why the buyer is buying the property);
- raise enquiries of the seller using both standard industry forms (known as the Commercial Property Standard Enquires or "CPSE"), which ask about disputes, boundaries etc., and through bespoke enquiries arising from the buyer's lawyer's wider due diligence; and
- raise searches of public bodies, utility providers etc. to ascertain issues arising from the location of the property (e.g. to check that the building has all necessary planning consents).
The buyer's lawyer's due diligence process can take several weeks (particularly as some of the key searches can take a number of weeks to be produced) and is expensive as sellers do not generally give buyers warranties regarding their title, the state of the property or on compliance of laws. In certain cases (such as where the seller is selling complex or numerous properties via a competitive bid process), the seller may decide to instruct its lawyers to prepare a due diligence pack including searches in order to speed up the sale process or to avoid numerous bidders having to carry out the same due diligence.
Where a property is sold by way of a transfer of the entity or structure through which it is held, the process is typically the same but with additional due diligence in respect of the relevant entity or structure. In transactions of this type, the seller will typically only give relatively limited warranty protection on the entity or structure and little or no protection in respect of the property itself.
Where the purchase of a property is financed by external debt, the lender will usually require a standard industry form of report from a law firm, which is known as the City of London Law Society Certificate of Title ("CLLS Certificate"). The CLLS Certificate comprises numerous statements about the property's title, the nature of any occupational leases, statutory compliance and disputes. For example, the CLLS Certificate will state that the property is not subject to a compulsory acquisition order. If a statement is untrue, the firm producing the CLLS Certificate will make an appropriate disclosure. In order to produce a CLLS Certificate, the law firm will have had to carry out the legal due diligence steps mentioned above. In bid scenarios and/or where the title is very complex, the seller's law firm will often produce the CLLS Certificate. In most other cases, the CLLS Certificate is produced by the buyer's law firm.
For transactions involving the purchase of commercial real estate, the investor's lawyer would typically review, as part of due diligence, and/or assist with commissioning the following:
- the real estate records and other state and city governmental records through a title report prepared by a title insurance company;
- a survey of the land and improvements located thereon;
- a zoning report or zoning letter;
- an environmental report (commonly referred to as a "Phase I" environmental site assessment);
- leases (if the property is subject to leases – though the extent of this review will depend on the nature of the property and why the investor is purchasing the property); and
- any other material contracts relating to the property.
The due diligence process performed by the investor's lawyer can take several weeks (particularly as some of the key searches can take a number of weeks to be produced) and is relatively expensive as most sales are on an "as-is" basis. As such, sellers give limited representations regarding leases, services contracts, and some other property related matters but do not generally give purchasers warranties regarding title to the property, the condition of the property or its compliance with laws. In certain cases (such as where the seller is selling complex or numerous properties via a competitive bid process), the seller may decide to assemble many of the relevant due diligence materials in order to accelerate the sale process, ensure that all bidders are provided with substantially the same information, and to avoid the same due diligence activities from being carried out several times (which could disrupt tenants at the property or the seller's employees).
In many cases, the purchase and sale agreement will provide for a due diligence contingency period which is when most of the legal and non-legal due diligence will take place. During that period, the investor has the right to terminate the purchase and sale agreement for any or no reason and, in such event, will receive a return of any deposit monies previously tendered. When market conditions favor the seller, however, such due diligence contingency periods are shorter or may even be eliminated.
In the case where a property is sold by way of a transfer of the direct or indirect ownership interests of the property owner, additional due diligence is performed in respect of the relevant entities that are to be purchased. In such transactions, the seller would typically give representations and warranties on the constituent entities in addition to the limited set of representations and warranties relating to the property itself.
Land Due Diligence
The minimum level of land due diligence will normally involve the following:
(a) reviewing the land certificate and the latest deed of land transfer;
(b) checking the originality of the land certificate with the relevant land office;
(c) confirming that the land is free from blocking or disputes registered at the relevant land office by obtaining a Statement Letter of Land Registration (Surat Keterangan Pendaftaran Tanah) from the relevant land office; and
(d) confirming that the landowner is not subject to any legal proceedings at the relevant district court by obtaining a statement letter from the relevant district court.
Building Permits and Planning Requirements
For existing buildings, it is important to review the relevant building permits such as the building construction permit, certificate of worthiness, and operational permits (eg, licences relating to the use of generators, elevators, etc.).
It is also important to check whether the zoning and use are consistent with the intended project. Please see question 16 for further details on zoning.
Confirming zoning consistency at the preliminary stage has become easier in some locations thanks to checks that can now be carried out by reviewing an online map, which can be accessed simply by registering online.
There is no market standard process or form of reporting for the legal due diligence in respect of the acquisition of commercial real estate. However, the legal due diligence process is usually undertaken in relation to technical, commercial and legal issues by the buyer’s professional advisers (lawyers, notaries, accountants, technical advisers, property surveyors and tax advisers).
With regards to legal matters, the due diligence will generally include the review of the title and encumbrances (in order to confirm the valid and full ownership of the seller, and that the title is free and clear from any liens or encumbrances whatsoever, such as mortgages, preventive seizure, etc.) and be extended to construction matters (building permits, certificate of conformity, guarantees and related insurance coverage); third party rights and rental situation; corporate matters (comprehensive corporate due diligence should be conducted in case the acquisition of the real estate is made through a share deal); permitting (validity of operating permit); contracts relating to the property and Litigation.