The starting price of a foreclosed property is discounted based on the market appraisal price, which can create relatively higher returns for investors, and the purchases of foreclosed properties have gradually become one of the strategies for investment in non-performing assets. However, high returns are often accompanied by high risks and, in practice, we often encounter cases where investors are unable to apply for property certificates, or use the foreclosed properties after they have been acquired.
This article combines the author’s years of investment and disposal experience in the non-performing asset industry, and suggests risk points that investors should focus on when purchasing foreclosed properties.
The most important risk that investors should be concerned about is whether the ownership can be transferred successfully, and whether the property certificate can be obtained smoothly. In practice, the bidders take all the risk of the failure to transfer the ownership. Therefore, investors should focus on the following relevant issues that might create barriers to the transfer.
Whether transfer of the foreclosed property ownership needs to meet some special conditions. When bidders are bidding on industrial projects to be used for scientific research, industry, hotel, tourism, culture and entertainment, they should pay close attention to whether there are any restrictions and pre-approval requirements on the qualifications of buyers in the historical background and auction announcement.
According to the Notice on Further Strengthening the Management of Industrial Projects, issued by the Beijing Municipal Commission of Planning and Land Resources Management in April 2017, buyers of industrial projects need to meet the policy requirements of the relevant management departments to pass their review before they can apply for a property ownership certificate. Take the example of a foreclosure project that the authors worked on, where the auction announcement clearly stated the buyer should be a science and technology-based enterprise, which is registered in the district or county where the subject matter of the auction is located. If the buyer fails to obtain the property certificate because they don’t meet the subject qualifications, the buyer will be responsible for the adverse consequences.
Whether there are any historical defects regarding ownership transfer in the auctioned property. When bidding, the buyer can go to the real estate centre to complete the transfer procedures according to the “order of execution” and the “notice of assistance in execution” issued by the court. However, in current bankruptcy auctions, the bankruptcy administrator acts as an independent issuing body, and the court generally no longer issues the notice of assistance in execution; the administrator represents the seller and the bidder to complete the ownership transfer procedure with the local real estate registration centre.
Therefore, if there are historical defects in the auctioned property, there is usually a big obstacle for the buyer to apply for a new property certificate after the bankruptcy auction.
In practice, an additional construction may be made to some properties after the completion and acceptance, or after obtaining a property certificate, to enlarge the usable space or raise the rent. But in a foreclosure process, the court usually will not verify whether there is any additional or unauthorised construction. Therefore, if the buyer purchases the properties with additional and unauthorised construction, the additional or unauthorised parts of the construction will still be subject to forced demolition and fines.
Existence of a lease
Before bidding for a foreclosed property, investors should conduct a detailed investigation of the lease or occupancy of the foreclosed property. According to article 405 of the Civil Code, article 31(2) of the Regulations of the Supreme People’s Court on the Auction and Sale of Property in Civil Execution by the People’s Courts, and current judicial practice, if a mortgaged property is subject to lease at auction, the lease shall continue to be valid for the bidder if it was created before the establishment of the mortgage, and before the seizure by the court, and shall be disclosed in the auction notice.
If the creation of the lease is later than the establishment of the mortgage, the lease shall not be protected by law. Even if there is a lease relationship that is not protected by law for a foreclosure property, if the investor needs to recover the right to use the property after a successful bid, in practice, there is often a greater difficulty in clearing the lease. If there are many lessees or issues, such as rent recovery in different places, investors are advised to carefully assess the cycle and cost of rent recovery.
Taxes and fees
According to the current laws and administrative regulations, in real estate transactions the buyer pays the deed tax and stamp duty, and the seller pays value-added tax, urban maintenance and construction tax, education surcharge, local education surcharge, land value-added tax, and stamp duty. However, in the practice of judicial auctions, there are often bidding notices stating that “all taxes and fees involved in the registration of the transfer of the target property shall be borne by the buyer”.
Since the calculation of the seller’s tax needs to confirm the price basis and tax calculation method, it can be difficult for bidders to accurately calculate their tax costs before bidding. In practice, it is common for buyers to pay expensive taxes and fees, and the authors have experienced cases where the buyer paid more than 20% of the auction price in taxes and fees. The principle that all taxes and fees in judicial auctions are borne by the buyer brings greater uncertainty to the buyer’s investment costs, and investors should pay special attention to this.
Investment in foreclosed properties is often accompanied by high risk and greater uncertainty. The above is only a partial list of common concerns for our readers’ reference, and it is recommended that investors should hire a professional advisory team before and after investing in foreclosed properties in order to make proper risk judgments.
Xu Bangwei is a partner and Yang Hui is a counsel at Jingtian & Gongcheng
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Beijing 100025, China
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