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Fix the Real Estate Act

house-by-afiler
house-by-afiler
The draft Model Real Estate Act, while a good idea in principle, has missed the mark on many important practical points and needs work before becoming law, argues bank in-house lawyer Sapan Gupta.

The debacle of economies around the world triggered by irresponsible, uncontrolled investment in the global real-estate market has made India aware of its need to regulate the sector, despite coming out of the crisis relatively unscathed.

The Model Real Estate Act by the Ministry of Housing & Urban Poverty Alleviation (MHUPA) is a step in the right direction. But as it stands today, the act overlooks some practical hurdles in the way of addressing several of its objectives to protect individuals from defaults.

Far from complete
First and foremost, buyers want to own or complete a property.

However, with no provision to encourage mediation and conciliation in disputes between the builder and the buyer the Act seems to overlook this prime objective.

It provides for events of cancellation of the registration, imprisonment of the promoter or enforcement of just a 5 per cent guarantee, none of which actually achieve the initial intent of owning the property.

No clear roadmap for completion of the project is provided. In some cases, the buyer may even need to pay more if the project is to be completed. Ironically, the Act adequately provisions for escalation of costs if a new contractor is handed over an unfinished project.

The 5 per cent guarantee derives from a mandatory 5 per cent development costs deposit by the builder to the regulator, which is used as a bank guarantee. If invoked this will increase the project cost for the developer but it will only ensure cover of 1 to 2 per cent of the project cost, since land costs are not included in evaluating.

Ideally, cost of development work should be defined to include land cost and development, which should include ready-to-use property. This would simplify bifurcating between land, structural development and other developments.

The 5 per cent guarantee therefore seems to be the only reassurance but it is also otherwise incomplete.

Promoting housebuilding
However, the conditions here should be expanded to specify that none of the promoters or directors in the list of intentional defaulters published by RBI are debarred from accessing the capital markets.

It should also specify eligibility conditions like minimum net worth and past track record. Further, the promoter should be able to contribute at least 15 per cent of the total cost of the project.

MHUPA proposes that the regulator takes over disputed projects. As such, the regulator will soon become a big promoter itself with hundreds of semi-constructed properties and capability to claim more money from original buyers.

Penalising parties
On the other hand, the Act tries to minimise discretion of parties by fixing certain penalties.

However, this neglects market volatility and economic disparity in India that will lead to variance in severity of the penalty. For instance, it allows the builder to refund the amount with interest plus some penalty that may be imposed by the regulator.

However, it discounts a possible rise property prices exceeding the fixed amount in the interim. The Act should prohibit reselling of this land for a certain period and specify a profit share in case of a second sale with original investors.

Similarly, the Act proposes to fix the penalty on non-payment by the buyer.

Against the backdrop of geographical disparity in India within a particular state, it is very likely this penalty may seem too little for some people while being too much for others.

The penalty should instead be left open to be defined by the two parties at the time of the transaction or at least be defined as a percentage of the transaction rather than a fixed monetary value.

Registered concerns
MHUPA bars promoters from accepting an advance before a registered agreement to sell.

This is highly impractical.

Until the agreement is registered, both parties are unsure whether the commitment has been made. The regulator would do well to cap advance amounts to a percentage of total cost and set a deadline to register the transaction with the sub-registrar.

It also bars any changes in the plan without approval from the Regulatory Authority, which would cause delay to the project and increase the cost. The Act should build a provision where non-material changes can be implemented with certification from the project architect and structural engineers.

The proposed legislation extends onus to architect, engineer, estate agent and contractor, which deviates from its purpose of governing the buyer and promoter equation.

Accountability of remaining parties should be left to the promoter as part of routine contracts. The buyer need have no rights against them unless (s)he contracts these parties in an independent agreement.

Furthermore, the document omits differentiation between the promoter and project, which raises several questions.

For example does the registration validity of three years, proposed in the paper, hold for a promoter, or merely the project? Could the promoter continue other projects if one is already in default?

In case a builder is developing on someone else’s land, MHUPA requires strengthening of mandatory documentation to include a builder’s right to sell. At present, the consent of the land owner to build is insufficient.

Fortunately, the Government has sought comments on the Act. I would hope that the Act will undergo changes before it is final.

Sapan Gupta is head-legal, debt capital markets of Standard Chartered Bank, India.

The views and opinions expressed in this article are his own and are not those of his employer. Nothing contained in this article should be construed as legal advice.

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