United States

Author: | Published: 3 Apr 2003
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Commercial leasing

1. What legislation and/or regulatory bodies are responsible for regulating the relationship between landlord and tenant in your jurisdiction?
Landlord and tenant law in the United States is regulated predominantly by local statute, with variance from jurisdiction to jurisdiction, but primary issues of concern are governed by the terms of most lease agreements. Localities in the US regulate commercial landlord and tenant relationships much less heavily than in the residential context, where tenant protections including rent control, habitability rules, tenant right of first refusal on sale and others are common.

2. What is the effect of a tenant's insolvency in your jurisdiction, and what remedies are available to landlords?
As a general matter, bankruptcy in the US grants the insolvent entity an automatic stay of collection and enforcement proceedings against it, which interferes with the ability of a landlord to evict a tenant or to seek monetary damages. Debtors in bankruptcy can elect to assume, assume and assign, or reject commercial leases. If the debtor assumes the lease, the debtor continues to be responsible for performing the lease obligations, and must cure all pre-petition defaults. The debtor's rejection terminates a lease and gives the landlord an unsecured claim for damages. If the debtor proposes to assign the lease, the debtor must provide for prompt cure of all defaults and include a showing of adequate assurance of future performance. The debtor is required to perform all post-petition lease obligations pending a decision to assume or reject the lease and must make a decision within 60 days from the date the petition is filed, or such extended date as the court may allow on a showing of cause.

3. How might changes in accounting standards affect the landlord/tenant relationship in your jurisdiction?
Generally, accounting standards in the US are fairly stable in the landlord/tenant context. One area where changes in accounting standards are likely to have an impact is in the area of synthetic leasing. On January 17 2003 the Financial Accounting Standards Board (FASB) issued Interpretation No. 46, Consolidation of Variable Interest Entities. This interpretation requires entities called "variable interest entities," which are certain types of passive entities (often called special purpose entities), to be consolidated by a company if that company is subject to a majority of the risk of loss from the variable interest entity's activities or entitled to receive a majority of the entity's residual returns or both. This interpretation, which is currently in place for new synthetic leases and will apply to existing synthetic leases as of June 15 2003, is already causing a reexamination of the costs and benefits of synthetic leases for many companies.

4. How has recent statutory reform affected (or, how will proposed future statutory reform affect) the lease renewal process in your jurisdiction?
Recent statutory reform has not played a significant role in the lease renewal process in the United States. The lease renewal process in the US is driven primarily by economic and contractual factors, like the recent downturn in markets.

5. How does human rights legislation in your jurisdiction affect the landlord/tenant relationship?
Human rights legislation generally bars discrimination in the landlord/tenant context based on race, gender, national origin and other protected classes. The Americans with Disabilities Act, moreover, can impose on landlords, depending upon the property, requirements related to accessibility and other architectural features for individuals with disabilities.

6. What is the effect of conditions restricting tenants wishing to divest themselves of surplus properties ('alienation'), and how can those restrictions be satisfied or circumvented?
Landlords have latitude in most jurisdictions to control tenants' rights to sublease or assign their leases, although tenants will often bargain for rights like reasonability restrictions on landlord approval or no approval required on certain types of divestments (like transfers to affiliates or transfers where the prime lessee remains financially obligated under the lease). It is common in most US markets, moreover, for landlords to receive some or all of the profits a tenant receives for divesting leased assets, although, again, tenants in some markets have the ability to narrow this requirement. There is no general right to return property if no longer needed, although the law in many jurisdictions imposes a default rule of mitigation of damages upon lease abandonment.

Securitization of real estate assets

1. How significant is the real estate securitization market in your jurisdiction?
Real estate finance is now an integral part of global capital markets and was one of the healthiest segments of the United States securities market in 2002. Commercial mortgage-backed securities in particular are now a significant part of US real estate debt and equity markets and are supported by a broad array of institutional investors that hold securitized real estate assets to diversify their portfolios. According to Commercial Mortgage Alert, about $52.7 billion worth of new commercial mortgage-backed securities were issued in the United States in 2002, out of a global total of $95 billion, down from a record $62.5 billion in 2001, but still up more than 300% from a decade before. There is also a strong market in the US for single-family residential mortgage-backed securities. In 2002 rating agency upgrades of single-family residential mortgage-backed securities exceeded downgrades by an almost 7:1 ratio.

2. What have the key real estate securitization deals been in your jurisdiction over the last 12 months?
There were many significant securitizations in the US mortgage-backed securities market in 2002. Among the largest issuers were Credit Suisse First Boston, with $11.2 billion in US mortgage-backed securities, Deutsche Bank with $10.6 billion, Lehman Brothers with $8.7 billion, Morgan Stanley with $6.5 billion and JP Morgan Chase with $5.2 billion.

3. To what degree of detail (if at all) are the parties obliged to disclose lease terms on a formal registry (eg the land registry) in your jurisdiction?
Transactions in securitized instruments are governed by state and federal securities laws. Sponsors must produce detailed disclosure documents for investors that describe the pooled loans. Since the arrangers of a securitized offering induce third parties to purchase interests in the pooled loans by relying on their disclosure documents, the consequences of inaccurate statements are greater than in traditional lending. Thus, there is a need for disclosure, including the use of objective, formulaic scoring methods. Credit risks are not prohibited, but evaluated for quantifiable and uniform information that is acceptable to the marketplace. The overriding concern is to ensure that the individual loans fall within the parameters for the anticipated loan pool to be packaged for resale in the securitized instruments market.

4. To what extent can uninsured risks or potential legislation leading to rent reviews affect the sanctity of the receivable?
Uninsured risks and potential legislation can impact the economic value of real estate. For example, since September 11 2001 the risks imposed by the possibility of terrorism have roiled the real estate capital market, although recent federal legislation on terrorism insurance is expected to ease insurers' reluctance to cover the risk. Similarly, the recent sharp increase in mould-related claims has left many large-scale residential owners facing unanticipated liability.

5. How important a role do the rating agencies play in securitization transactions in your jurisdiction?
The rating agencies are crucial to securitization transactions because public trust in their research capabilities and the accuracy of their ratings gives the investor confidence and thereby makes the market more attractive. After extensive analysis, rating agencies provide investors with a consistent measurement of the likelihood that the cashflow from the security's underlying mortgages will be sufficient to meet the scheduled payments of principal and interest to qualify for the specified credit rating. At the highest ratings, the cashflows are expected to hold up even under severe economic conditions.

Property outsourcing

1. How prevalent is property outsourcing in your jurisdiction?
Property outsourcing became a buzzword in the early 1990s, and has remained prevalent in large US markets such as Washington DC, New York, Los Angeles, Chicago and San Francisco. During the stock market boom of the late 1990s, property outsourcing provided a means for bricks and mortar firms to raise cash for investment or to improve their balance sheets, while new economy tech companies used outsourcing as a way to acquire new office space while keeping overheads low and staff streamlined. After the "tech wreck," property outsourcing has become a common way for creditor landlords and investors in distressed properties, who have little interest or experience in property management, to handle this aspect of ownership.

2. What are the relative benefits of each of Private Finance Initiatives (PFIs) and Public-Private Partnerships (PPPs)?
Public-Private Partnerships and similar structures play an increasingly important role in the redevelopment of major US cities. These partnerships are structured in a variety of ways. The best among them, however, combine the strengths of the private sector in securing capital, in construction and development, and in property management, with the strengths of government in land assembly and disposition and overseeing the regulatory process. Cities and states in the US are also increasingly working with the private sector to finance and construct infrastructure for development. And many jurisdictions are taking an active role in supporting the financing of urban redevelopment through techniques like tax-increment financing and private activity bonds.

3. What lessons have been learned from both private sector and public sector property outsourcing schemes in terms of performance, service provision, financial benefits, problems?
Although management companies must perform at a high level of competence to retain a contract, they typically have several buildings under management and can afford to lose a building assignment more easily than an owner can afford to lose tenants. With this in mind, choosing the correct property manager is vital to the success of any property outsourcing plan. Property owners should compare potential building service contractors according to experience and reputation, attitude and business plan, accountability, level of integrated services, human resource practices, responsiveness, stability, and price.

4. To what extent should the service provider extend services to cover back office systems such as IT and HR?
Property managers should be capable of providing information and technology and human resources services to clients. Property management has expanded into such areas as copy center and mailroom operations, courier services, energy systems, transportation services, records management, and information technology services. Outsourcing allows companies to transfer the purchase of non-performing assets (such as office copy machines) to service contractors and large outsourcing firms can take advantage of economies of scale. However, some tenants might not need or feel comfortable leaving strategic back office functions in the hands of its property manager.

5. What has been the effect of Enron and the accounting scandals on corporates considering off-balance sheet property outsourcing?
Part of property outsourcing's attraction is that a company can keep non-performing assets off the balance sheets. Unless otherwise contractually arranged, a party obtains the right to use the assets provided by a contractor as part of its service agreement and does not assume the risk of ownership with regard to those assets (ie it cannot claim depreciation). As a result, the party obtains those assets through operating leases, which are treated by FASB Statement No. 13 as off-balance sheet items, rather than through direct ownership or capital leases, which must be included in a company's balance sheets. In response to recent accounting scandals, FASB is currently considering Issue No. 01-08, "Determining Whether an Arrangement Contains a Lease." Although FASB has not yet reached a consensus on this issue, certain types of property outsourcing arrangements, especially those involving sale leasebacks, may encounter heightened scrutiny in the future.

6. What is the future of property outsourcing for the private sector?
Trends within the property outsourcing industry are responsive to changes in tenant needs as laws and market change. When vacancy rates are high, commercial property owners are more likely to hire management companies that offer a variety of back office services that will attract tenants. When occupancy rates are high, property owners place greater weight on outsourcing's balance sheet improvement and overhead reduction attributes. Long term, property outsourcing in the private sector will likely remain popular unless FASB or the SEC revise the accounting treatment of operating leases, with increasing emphasis on security and loss control expertise, energy management expertise, and indoor air quality expertise.

Financing of real estate transactions

1. What are the most common methods by which purchasers finance high-value real estate transactions in your jurisdiction?
There are many different methods for financing a high-value real estate transaction and most such deals employ a combination of techniques tailored to the specific conditions of the property. Real estate owners often create special purpose vehicles that hold title to a particular property, usually consisting of only the assets of the mortgaged property itself. This segregates the liabilities of one entity from the liabilities of another and makes the owner "bankruptcy remote". Methods of raising the large amounts of capital necessary to finance high-value transactions include loan syndication and securitization, which are both ways of pooling assets and risk among many investing entities. In addition, some high-value properties, including casinos, are financed through the issuance of high-yield bonds.

2. To what extent does stamp duty (or the equivalent in your jurisdiction) affect the cost and method of financing real estate transactions?
In the United States, states and many localities tax transfers of title and the recording of deeds, and a handful also tax the recording of mortgages. In the mortgage context, substantial recording taxes, up to 2.75% of the principal sum secured in New York (as applied to newly advanced funds), for example, often lead to unusual documentation structures. In New York, existing mortgages are rarely released but rather are assigned to a new lender who then records a new mortgage for the new funds being advanced before consolidating the new and old mortgages into a single lien via a consolidated mortgage document. Similar deal structures have been common in straight asset transfers, but many jurisdictions are moving to close loopholes that have allowed parties to aviod these taxes.

3. To what degree of detail are the parties obliged to disclose the terms of financing on a formal registry (eg the land registry) in your jurisdiction?
The terms of financing need not be revealed on a formal registry unless the financing involves a security, in which case securities regulations must be followed. However, in order to secure an interest in a property, states have recording statutes in place, which determine priority among interest holders depending on when an interest holder records their interest to the appropriate authority. While recording regimes vary in the US, the most common type of statute is the so-called race notice, which gives priority to a subsequent purchaser that lacks notice of a previous sale and records first.

4. Is there any debate in your jurisdiction as to who holds the legal title to a mortgaged property?
Three primary approaches to mortgage law prevail in the United States: the lien theory, the title theory and the intermediate theory. The majority of states, including New York, Massachusetts and Florida, have adopted a lien theory, which views a mortgage as giving a lien on mortgaged property to the mortgagee while leaving title with the mortgagor until a valid foreclosure. Some states, such as California, Maryland and Texas have held to the original title theory, whereby the mortgagee holds legal title to, and the right to possession of, the property until the mortgage is satisfied or foreclosed. A few other states follow an intermediate theory, whereby the mortgagor has the right to possession only until default and that the mortgagee has the right to possession after a default.

Conveyancing issues

1. What are the various forms of property ownership in your jurisdiction?
Property ownership in the United States encompasses a vast array of interests. Statutes often recognize any interest in or claim to real estate whether entitling to present or future possession and enjoyment, and whether vested or contingent. In primary US markets such as New York, Washington DC, Chicago, Los Angeles, and San Francisco, ownership interests range from traditional direct ownership in fee simple, to stock interest in a property's equity, to life estates. Hybrid ownership forms such as cooperative arrangements have become commonplace in residential markets over the past twenty years, while in commercial markets mineral and air estates are often distinct from the surface estate. In dense cities such as New York, the development rights to real property are frequently purchased and sold separate from the underlying property itself and ground leases are a common development feature.

2. Other than the general principles of contract law governing agreements between vendor and purchaser, what other statutory governance, regulations or guidelines exist to protect the parties to a property transaction?
Property transactions in the United States are subject to a web of legal protections, including implied covenants, required disclosures and statutory title insurance requirements in many jurisdictions, as well as a complex regime of recording to make priorities of title transparent. In most primary US markets, for example, bona fide purchasers who record their deeds are afforded protection from prior or subsequent claims on the property. And many jurisdictions provide that property vendors who purport to convey property without being in actual possession must forfeit the land to the buyer if the vendor comes into possession of the property at a future date.

3. Is the practice of the vendor wanting to take advantage of development uplift prevalent in your jurisdiction? How do lawyers usually achieve this?
A number of substantial urban uplift programs have been undertaken in the largest US real estate markets in recent years, and the recently enacted New Markets Tax Credit Program will target billions of dollars worth of tax credit enhanced equity to core urban markets in coming years. Lawyers can help developers in a number of ways. Lawyers assist developers by working with local lawmakers to identify targeted areas. Once a need for uplift has been identified, lawyers often play a major role in the developer's dialogue with government to design an appropriate development incentive package, including tax abatements, public financing, and reduced property acquisition costs. Lawyers can also enable current property owners in uplift areas to raise potential development capital by capturing existing property appreciation, either through refinancing or sale and leaseback transactions. Lawyers can also help existing developer landlords benefit from uplift's positive economic externalities by drafting floating rate or percentage lease clauses in commercial documents or rent elevation reservation provisions in residential leases.

4. How significance is e-conveyancing in your jurisdiction? What rules and regulations govern the e-conveyancing process?
The Internet, while an invaluable marketing tool for real estate professionals, has not taken a preeminent place in the conveyancing process in the US. A recent study by the National Association of Realtors indicates that the Internet has not triggered a significant amount of online real property purchases, or an increase in online "for sale by owner" listings. E-conveyancing, however, is likely to be increasingly relevant in major US markets. The 2000 Electronic Signatures in Global and International Commerce Act removed much of the uncertainty that previously surrounded contracts entered into online, providing that Internet agreements carry the same force and effect as their traditional paper counterparts. Since that time a few online brokers have managed to penetrate the real estate markets in a few large US markets.

5. How has the legislation and recent case law in your jurisdiction addressed the issue of adverse possession?
Adverse possession, long-established in the United States to discourage abandonment and promote property use, has increasingly been targeted at core urban markets. For example, it is increasingly common for homeless persons to stake a claim to vacant or abandoned buildings. Cities like New York, which have a considerable number of vacant buildings, continue to struggle with how to handle this issue. In San Francisco, housing rights groups have successfully entered adverse possession claims for property in potential uplift neighborhoods, and the practice of the routine eviction of homeless persons discovered in vacant buildings is being reconsidered in order to allow the homeless to present their claims in court.

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