What legal issues (if any) cannot be covered by usual legal due diligence?
Real Estate (2nd edition)
8.1 There are some real property interests that bind a purchaser even though the interest is not registered at the Land Registry. These are known as ‘overriding interests’, details of which are set out in the Registered Land Law (2018 Revision). Some of these rights may be apparent from inspection (e.g. occupiers), while others may be discoverable by raising enquiries with third parties (e.g. utility installations). Lawyers do not generally physically inspect real property as party of their work.
8.2 In addition, a professional inspection or survey is always advisable to ensure compliance with building control, health and safety, environmental and other matters relevant to the state and condition of the subject property. The nature and scope of such engagement will depend on the transaction. In particular, the boundaries shown on the registry map and area shown on the land register are approximate only unless a fixed boundary survey has been carried out and registered.
If the seller has set up an exhaustive, genuine and truthful data room, the legal due diligence should cover all legal risks in relation with the transaction.
There are some land interests that bind a buyer even though the interest is not registered in the land registry.
In addition, the buyer's lawyers cannot (or only to a limited extend) assess compliance of the building with building permits and zoning laws (as most of this will depend on factual questions) as well as superstructures (for the same reason) and they will not cover technical issues and defects, building control, health and safety or environment issues as part of the legal due diligence. Specialist surveyors and technical experts can be employed to deal with these issues.
Legal due diligence may not make apparent all unauthorized building works, which may render the title not being good and marketable.
It is also important to pay attention to unregistrable interests such as tenancies, uncrystallised floating charges and other interests arising from resulting or constructive trusts that may not be found from the land search records obtained from the Land Registry and which might not have been disclosed by the vendor.
The actual size and exact location of the real estate shall be verified a surveyor (i.e. whether registered data is in line with actual status).
Rights that are not registered with the land registry are requested in course of the due diligence and warranties shall is also be given that the provided information is true and complete. Environmental and regulatory matters are typically limited to the knowledge of the seller and technical matters fall rather within the scope of technical due diligence.
Buyer's legal due diligence does not usually cover building control, health and safety or environmental issues requiring specialists and experts to be employed.
In addition, there are some land interests that bind a buyer even though the interest is not registered at the Land Registry, known as "apparent easements" and also there could be certain occupancy contingencies (e.g. squatters) which, as lawyers do not generally inspect properties, would have to be verified by the buyer itself.
Some legal issues which are not apparent from title documents, revenue records and inspection in the office of the Sub-Registrar are:
- Claims of persons in possession, like persons claiming adverse possession (for more than 12 years) or squatters or tenants protected from eviction - may require survey of the property by a Surveyor in order to be ascertained.
- Legal status of construction on the property where construction or part thereof lacks requisite permissions - professional advice from Architects and Surveyors is required on these issues.
- Information on pending or likely Government actions to the extent not disclosed by the transferor or whether any proceedings which may result in liability for payment of income tax or any other tax, interest or penalty have been initiated against the transferor.
- Whether the property is notified for or reserved for compulsory acquisition by the Government.
- Whether the property is attached for recovery of any amount.
There are certain legal issues that potentially may only be identified through a physical inspection of the property in sale such as environmental issues, issues with access and services, and unknown occupants. Also issues of technical compliance with the planning laws. Best practice is for the buyer to arrange for a professional survey and valuation of the property in sale to be carried out.
Due to the deficiencies of the Russian public register system, some encumbrances and restrictions on real estate may be not registered. For example, underground power cables, pipes or other facilities may restrict the use of the land plot (e.g., for construction purposes), but are often not registered as encumbrances in the real estate register. Further, sanitary protection zones or other restrictions may exist, but may not be reflected in any the public register or publicly available documents. This risk can be reduced through an extensive due diligence, which is often performed by sending official inquiries to various parties (e.g., local grid operators, various state authorities, commercial entities that own neighbouring land plots) to obtain confirmation that there is no infrastructure that may interfere with the designated use of the land plot offered for sale, and by on-site visits.
Further, often the buyer’s decision to purchase the land plot depends on the local authorities’ plans with respect to further development of the area (for instance, the authorities’ plans to establish a railroad near the land plot may be a deal breaker). However, usual due diligence focuses only on existing city-planning documentation, and cannot assess the risk of its changes in the future. Moreover, for some areas, the city-planning documentation is unavailable (not yet developed) or may be inaccurate. Therefore, to reduce this risk, a more extensive due diligence is required, during which the local authorities would be contacted with inquiries on their specific plans with regard to the area of interest.
Moreover, historical risks in respect of the title to the privatized land plots and other real estate objects often cannot be assessed precisely due to the lack of public register system in that period and other factors (lack of the necessary documents, nontransparenсy of the privatization processes, etc.) that make it difficult to evaluate whether the privatization procedure was carried out in compliance with law. These risks are often regarded as remote, yet cannot be excluded completely.
Finally, where real estate is purchased from individuals (both through asset deals or share deals), due diligence cannot fully exclude the risks related to spousal consents, when the seller claims to be not married. Recent court practice shows that lack of spousal consent may be a ground for invalidation for the transaction even where the purchaser was innocent and could not know about the lack of spousal consent. At the same time, it is currently impossible to definitively establish whether an individual is married. Therefore, this risk is usually covered by representations and warranties, as well as title insurance.
Generally speaking, all legal issues are covered by a comprehensive legal due diligence process.
Only a very limited number of contributions due to public administrations may be secured by a lien on a real estate without being registered at the land registry and therefore do not appear on the excerpts of the land registry. The deed of sale will typically contain a representation from the seller in such respect.
There are some land interests that bind a buyer even though the interest is not registered at the Land Registry. These are known as 'overriding interests'. Details of these rights are set out in the land registration legislation. Some of these interests may be apparent from inspection e.g. squatters' rights. As lawyers do not generally inspect properties, the buyer will need to satisfy itself on this issue. For overriding interests that are not apparent from inspection, the CPSE (see Q6 above) will ask about these interests.
In addition, buyers' lawyers do not cover building control, health and safety or environment issues as part of the legal due diligence. Specialist surveyor and experts can be employed to deal with these issues.
Generally, a purchaser would take title to real property subject to matters of which it is actually aware as well as those for which it is on constructive notice. Constructive notice attributes knowledge to a person or entity of those things that would be known if a search were carried out by a reasonable person even if such person or entity did not in fact have actual knowledge. While in the typical due diligence process lawyers commission and review most of the searches that would otherwise result in constructive notice, there are some searches that are not performed by lawyers. For example, matters that would be apparent from a physical inspection of the property would be imputed on to a purchaser. As lawyers do not generally inspect properties, the purchaser will need to satisfy itself of this issue.
All the aspects detailed in the previous answer should be covered. That said, it is worth mentioning that there are aspects that can complicate real estate due diligence; such as properties not filed with Public Registries, or properties the location of which makes the field technical verification difficult, due to distance, poor or null consolidation or wild geographic characteristics.
Under due diligence for commercial real estate transactions, most legal issues are covered. However, environmental risks are often difficult to assess since they require specialized knowledge and government regulation in this matter is vast and complex. Independent environmental law specialists and technical consultants are often involved in this type of due diligence.
Other area of material legal risk, which could have limited coverage by regular due diligence process, is the one related to agrarian property (ejidos); mainly consisting of matters arising from acquisitions through inheritance or from non-visible errors in converting ejido (communal property) land into private property land.
Certification of title to an asset is issued by a notary public only (the Italian “certificate of title” is a 20-year notarial report, i.e. the relazione notarile ventennale, showing chain of title 20 years back in time); legal due diligence would typically elaborate on critical aspects flagged in the 20-year notarial report in terms of implications in the context of the transaction, recommendations, contractual protections, etc.
Moreover, legal due diligence does not cover the correspondence of the legal outcome with the factual situation of the relevant asset (e.g. the correspondence between building permits / cadastral data and factual status, the matching between scope of a license and factual situations / activities actually operated in the asset, etc.).
In light of the above, it is advisable for an investor to appoint—in addition to the lawyers in charge of the legal due diligence and a notary public in respect of the 20-year notarial report—also technical advisors (including environmental experts) to carry out technical due diligence; the outcome of such analysis is to be reviewed by the lawyers to identify legal implications of the issues flagged by the technical experts.
Since registration of the title deed has a protective effect regarding the acquisition of ownership and entitlement to limited rights in rem on real estate, the risk is low. On the other hand, contractual rights such as leasing or pre-emption right etc. can not be asserted to the third parties unless they are annotated before the acquisition to the land registry.
Please note if there is an expropriation decision or a pending case related to the real estate, these are usually notified to the land registry. However, for a limited time - until the notification is received by land registry- they cannot be seen on the records, and this can be deemed as a risk not covered in due diligence reports.
Additionally, we usually recommend checking the real estate physically in order to avoid any intruder occupant risks.
The due diligence process aims to gather the basic information and to discover possible risks associated for the transaction. These risks may be very serious in which case the purchaser is advised that it is dangerous to proceed with the transaction. Some less serious risks are dealt by inserting certain protection clauses in the contract or by requiring from the Vendor certain waivers and guarantees. Although, the contract will aim to protect a purchaser against the risks, the Vendor may breach the contract in which case the purchaser may have to resort to Court proceedings.
Legal counsel do not normally conduct on-site DD, so the issues requiring physical inspection of property would not be covered by DD. For instance, the following matters would not be covered: the matters requiring physical DD related to (i) regional regulations; (ii) architecture or construction; (iii) environment; (iv) city planning or zone use; and (v) actual boundary. An appraisal report, engineering report, and property report is usually provided to investigate those points not covered by the legal DD. Where those reports highlight specific issues, legal DD on the specific issues would be undertaken.
Legal due diligence covers review of title deeds and relevant agreements referred to on the back of the title deeds, but does not cover the land survey.
The land survey process normally consists of detailed investigation of land plots, area measurement, reviewing documents/information retained by relevant land officers. As the land survey sometimes takes an additional amount of time and requires expertise of personnel, it is therefore only conducted when the real estate is the key asset of the transaction, or where special issues or concerns are addressed.
Therefore, usual legal due diligence sometimes may not cover the following:
- Whether the actual areas of the land plot reflect information provided in the deeds in terms of measurement and occupation.
- Whether there are any issues threatening the ownership or the rights in property, e.g., whether the land plots relate to permanent forest areas, whether a boundary line investigation is needed and whether the distance to the public road is in compliance with relevant laws, for example, the Building Control Act 1979.
- Other uninformed factual facts, as we do not conduct physical land due diligence.
Certain undetectable circumstances in a legal due diligence, such as acquisition by possession (usucaption/adverse possession), which may not be publicly registered, may impair the property rights. However, such a risk may realistically only lurk in large rural areas, where physical possession may not always be obvious or easily assessable. Circumstances which may also deserve attention is the observance of r specific provisions on urban or zone planning.
Some issues cannot be established during the LDDR if they are not disclosed by the seller. For instance:
- existing lease contracts, which have not been entered into the Property register will be binding for the buyer for up to a year;
- rights of third person(s) (even ownership based on the expiration of the statutory prescription period for more than 10 years) based on factual holding of the real estate in a way demonstratively excluding the right of the owner;
- any other information that is not contained in the public sources of information and not visible from the seller's documents
Since the legal due diligence is based primarily on the private documents presented by the seller and the entries into the public registers. Thus, any information that is not contained in those sources/ any misrepresentation therein will hardly be considered in the due diligence report. The possible risks should be prevented by explicit representation and warranties of the seller and setting forth respective penalties for the cases of misrepresentation and false declarations.
Usually legal due diligences do not encompass technical aspects, such as the physical state or condition of any asset, or the valuation, state, condition, boundaries and/or measurements of the real estate properties, analysis of plans and other technical documents from an extra-legal point of view, etc.
Legal issues relating to title, use, access rights, mortgages and other encumbrances, planning/zoning, litigations etc. are normally relatively easy to cover under a normal due diligence procedure, thanks to publically available and reliable information. The exception would of course be contractual liabilities that are not registered with any public authority, such risks will however normally be addressed through Q&A and/or sufficient SPA regulations.
The following legal issues can complicate real estate due diligence in Indonesia:
- Unregistered land where evidence of ownership is lacking and which may therefore be subject to unforeseen claims.
- In certain areas, privately held land may overlap with concession areas granted by the Indonesian government for mining, forestry and plantation activities.
- As there is no centralised or electronic land registry in Indonesia, land title searches require involvement of third parties such as local land deed officials/notaries, and cooperation from land owners.
- The licencing process for land development in Indonesia is complex, and regulations vary from one region to another. There are various licences that developers need to obtain prior to and during the development phase.
- Some Indonesian regulations relating to land and real estate are unclear and may also conflict with other regulations. For example, regulatory uncertainty exists in relation to strata title assets due to the absence of implementing regulations. This vacuum is typically dealt with by government policy, which may not be applied consistently. Enforcement by regulators is generally uneven due to a lack of resources, and may at times be driven by political factors.