What legal issues (if any) cannot be covered by usual legal due diligence?
In general, legal due diligence would not cover (i) what kind of administrative or regional regulations apply to the area or the target property and the compliance thereof, (2) if building is in compliance with architectural or construction related laws (including fire preventions and facilities), (3) the applicability or possible effect of city planning or zone use, (4) environmental liabilities, and (5) any matters which require physical due diligence (such as actual boundary confirmations). Those would be covered by other professionals such as licensed real estate brokers and land and house investigators.
If there are many tenants, legal due diligence may also exclude reviewing all tenant related agreements except for material tenant agreements (if any).
There can be access rights not registered which can be a right acquired by the use for a certain period of time. The real areas of the property may sometimes not correspond to the registered areas. However legal due diligence only confirms that the registered areas in the Property Registry correspond to the ones registered in the tax registry, and this is enough to transfer the property and register the same in the name of the buyer.
Matters arising as a result of a physical inspection of the property including environmental issues. For example, a physical inspection of the property might reveal issues with access, occupants, condition etc. Litigation affecting the property other than in the High Court. Planning law and building regulations compliance other than the fact no enforcement action has been taken by a local authority. Best practice is for the buyer to arrange for a professional survey and valuation of the property to be carried out.
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 material area of legal risk which could have limited coverage by regular due diligence process is matters arising from acquisitions through inheritance or from non-visible errors in converting ejido (communal property) land into private property land.
Certain potential legal issues are not covered by a legal due diligence investigation. In particular easements created by designation or prescription (bestemming of verjaring) are not covered, since usually such easements are not registered with the land registry and it is possible that the owner is not aware of the existence of such easement.
There are several issues that may be difficult to reveal, in a usual legal due diligence, typically where legal and financial/technical due diligence overlap. Some examples are mentioned here:
- Large infrastructure projects may from time to time lead to expropriation of commercial real estate, and neighbouring projects may interfere with essential plans for development of the property. Sometimes early stage planned projects are available in public registers, but this is not always the case.
- When commercial real estate is repaired /renovated, an the project is so comprehensive that it – under the discretionary judgement of the local building authority – is a general renovation, both the existing and the new elements are to be upgraded to current technical standards. It is possible to make an argument for disproportionate requirements and/or a dispensation from certain requirements, but it is a risk that the application is declined. Unless the landlord has made sure that the market standard lease agreement is adjusted to ensure that the increased building cost is covered under the rent to be paid, the lessor company must bear the loss.
- Change of use – within the frame of lawful use under the zoning plan – will as a main rule be granted with no further risk or cost. However, the part of the premises that is used differently from before, shall as a main rule be upgraded to current technical standards. This may be very difficult to reveal. Change of use that is not in accordance with the zoning plan can be difficult to reveal, and the political risk for obtaining a dispensation or obtaining a new zoning plan can be material for the transaction.
- Tax issues regarding allocation of assets in correct asset group for depreciation purposes may be very difficult to reveal.
Although a due diligence exercise usually involves checking the validity of each former owner’s title (see point 8 above) most property titles chains cannot be verified further back than the last 50 years, since the system of cadastral measurements, land books and archives had not been implemented throughout the entire Romanian territory prior to 1989. Archives relating to the Romanian State’s ownership over certain assets have also been lost or destroyed.
Therefore, the last verified historic owner is usually the Romanian State and subsequent transfers. However, certain individuals may challenge the Romanian State’s historic title over the real estate. The invalidation of the Romanian State’s title may reverberate on the title of the current owner. Therefore, in certain circumstances, due diligence is limited to ensuring no claims exist against the Romanian State at the moment of due diligence performance (however such claims may be filed at any time after the due diligence).
Another issue stems from the fact that the restitution process of state-owned property has been usually carried out without relying on any precise cadastral measurements and land plot plans. With property titles issued for multiple plots without precise localisation, a risk of overlap of current titles exists in almost all localities, except in the ones where complete cadastral measurements have been completed.
The Russian Realty Register was only established in 1998, so does not contain exhaustive information about all Russian real estate. Titles to real estate that appeared prior to 1998 are formally valid and enforceable without being recorded in the Realty Register. Consequently, collection of information on such real estate commonly requires much more effort than simply obtaining an official extract from the Registry.
The Russian Realty Registry is rather young and is still developing and gathering material data. This is why sometimes the Registry does not show material limitations on land and property, e.g., special protection zones established for airfields, underground facilities, national parks, etc. Discovery of such unrecorded limitations and encumbrances requires extra efforts on the part of the buyer’s counsel.
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.
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.
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.
Unfortunately, even if the buyer adopts all the cautionary measures and carries out a conservative due diligence on the real property, legal risks may arise, which were impossible to foresee based on the documents. For instance, an irregular occupation of the property by third parties (which would only be verified upon an in loco inspection). Moreover, because the due diligence of real estate contemplates, in principle, assessment of certificates from judicial district where the property and residence of the owner and predecessors are located, it is possible that some liabilities outside such locations fails to be identified in the due diligence, and depending on its nature and economic content, may have negative effects on the transaction.
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.
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.
To a great extent the legal due diligence is covering all material risks regarding the real estate acquisition.
However, existing lease contracts which have not been entered into the Land register will be binding for the buyer for up to a year. The information for such contracts, if any, shall be requested by the seller.
Further, if a third person has effectively held the property prior to the purchase in a way demonstratively excluding the right of the owner, that third person may claim some rights (even ownership based on the expiration of the statutory prescription period for more than 10 years) and there is no way for the legal due diligence to predict this situation. For this reason it is important for the seller to confirm explicitly that he/she/it has been holding (possessing) its property for the last years and to deliver the factual possession of the property.
It should be noted, that 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 or any misrepresentation therein will hardly be taken into account as part of the due diligence report. The possible risks may be prevented by setting forth respective penalties for the cases of misrepresentation and false declarations regarding the relevant circumstances.
The legal due diligence usually covers 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 do only cover to a limited extent planning approval and zoning laws (as most of this will depend on factual questions of the as-built property) 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 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.
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.
In addition to title due diligence, it is important for the following confirmations to be made:
- Zoning restrictions: it is advisable for the buyer to confirm that the property can be used for the desired purpose. This can be ascertained at the relevant physical planning authority in the state that the property is located. While a title document such as a C of O may specify the use to which a property may be put, it is important to carry on additional enquiries to determine whether the planning authorities have made any changes to the zoning regulations that affect the property.
- Government Acquisition: In many states, it is difficult to determine whether title to a property has been revoked or whether the property falls within an area that the government has excised for specific use. It is advisable, therefore, for the relevant enquiries to be made to confirm that the title of the seller has not been compromised by any governmental action. This confirmation can be obtained from the Surveyor General of the relevant state in response to a formal request. In Lagos State, the response from the Surveyor General’s office to this enquiry is issued in the form of a Land Information Certificate.