The term “real estate trust business” mainly refers to the act whereby a trust company, through the establishment of a trust, manages, applies and disposes of, in the trust company’s name, the real estate trust funds lawfully owned by the settlor in accordance with the wishes of the settlor for the benefit of the beneficiary or for a specific purpose and the subject matter of which is immovable property or the enterprise that operates its real estate. Among commonly seen real estate trust models are the loan-based trust model, equity-type trust model and hybrid-type trust model.
Although the real estate trust business has provided developers with various financing options, since the start of 2018, oversight of the real estate trust business has become stricter and “borderline” acts of certain trust companies will soon be subject to severe penalties. This column looks at the key points in a compliance review of a deal structure and the project company.
Review of qualifications of project company and payment of land grant premium. Pursuant to the Notice of the General Office of the China Banking Regulatory Commission (CBRC) on Issues Relevant to Strengthening the Oversight of the Real Estate and Securities Business of Trust Companies, a trust company is strictly prohibited from extending loans to real estate developers to pay the land grant premium. Accordingly, if a project company is a land reserve organization, subject to administration by list, a trust company shall not extend trust loans to it. It must be ensured that the project company has paid the land grant premium in full and to stipulate expressly that the loan may not be used to pay the land grant premium.
Project company and real estate project standards. Pursuant to the CBRC Notice on Issues Relevant to Strengthening the Oversight of the Real Estate Business of Trust Companies, a real estate development project to which a trust company extends a loan is required to satisfy such conditions as it having all the required certificates, the developer or its controlling shareholder having second-grade qualifications, the project capital percentage satisfying the minimum state requirement, etc.
Based on regulatory requirements, the minimum capital percentage for a real estate development project is 20% for low-income housing and regular commercially developed housing projects and 25% for other projects. It should also be noted that shareholder loans (unless the shareholder undertakes to waive the right of repayment of such loan before the project company repays the bank or trust company loan), bank loans and other such debt funds, as well as bank personal wealth management funds, other than commercial bank private banking business, may not be used as project capital.
Review of project company’s payment of real estate project monies. Pursuant to Article 286 of the Contract Law and the Official Reply of the Supreme People’s Court on the Issue of the Priority Right of Payment from Construction Project Monies, the contractor’s priority right of payment takes precedence over mortgage rights and other claims. So, when doing due diligence, attention needs to be paid to the payment of the construction project monies.
Review of nature of equity to be transferred under equity-type trust model and of shareholders’ capital contributions. Under the equity-type trust model, if the equity to be transferred is state-owned, the transfer procedure has to be conducted pursuant to the Interim Administrative Measures for the Transfer of the
State-Owned Property Rights of Enterprises. If the transfer procedure is non-compliant, there is a risk that the equity transfer will not be legally recognized.
Furthermore, according to the Company Law and judicial interpretations, if such defects in the shareholders’ capital contributions as a fraudulent capital contribution, unauthorized withdrawal of a capital contribution, etc., exist, there will be a risk of the company having its business licence revoked or of the other shareholders bearing joint and several liability for making up the difference to third parties. Accordingly, under the equity-type trust model, the documentation relating to the capital contributions of the project company’s shareholders need to be reviewed in detail.
Articles of association of project company. The articles of association of a company are a key basis on which the company determines rights, obligations and relevant procedures. Attention should be focused on the following three points: (1) Whether the provisions on the organizational structure set forth in the articles of association comply with relevant provisions of the Company Law and judicial interpretations; (2) the voting procedure required for the project deal structure and the written resolutions on relevant matters of the project company issued by the relevant bodies; and (3) where the deal structure involves an undertaking of priority in the distribution of profits, a change in the equity and other relevant matters, the trust company may demand that the project company include the same in its articles of association.
Local policies. When credit enhancement measures are provided under the deal structure for a real estate trust, particularly where land use rights and works under construction are mortgaged, attention needs to be paid to the relevant policies of the local immovable property registration centre on the procedures for creating and releasing mortgages. Where the proceeds of the sale or pre-sale of commercially developed housing serve as the source for repayment, one has to observe the relevant region’s policies on the pre-sale of commercially developed housing, the policies on the oversight of pre-sale proceeds and sale restriction, purchase restriction and price restriction policies so as to control strictly transaction risks. As relevant policies vary substantially from region to region, we recommend that, based on the specific circumstances of different projects, inquiries be made to the relevant authorities of the place where the target project is located.
In short, in an environment where regulation is becoming stricter, the lawful and compliant engagement in real estate trust business is particularly important. Besides comprehensive due diligence to confirm repayment capacity (e.g., due diligence on the project company, the material debts of the company providing security, potential breaches of contract, etc.), a review of the project company and the project’s deal structure should also be conducted. As there will be major differences from case to case, we would recommend that the business department carry out a dedicated analysis, based on the circumstances of the project or have a professional legal team issue a compliance opinion based on a due diligence investigation.
Wu Huijin is a partner and Mei Hanyu is a paralegal at AllBright Law Offices. AllBright’s paralegal Liu Li also contributed to the article
11/F and 12/F, Shanghai Tower
No. 501 Yincheng Middle Road
Pudong New Area, Shanghai 200120, China
Tel: +86 21 2051 1000
Fax: +86 21 2051 1999