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FDI Features

Regulatory change and the new Mortgage Law


15 Jun 2009

Alan HallAlan Hall, Senior Counsel, Al Tamimi & Company, examines the impact of regulatory change and new laws on the real estate market in Saudi Arabia

What changes have been made in order to facilitate foreign investment in Saudi Arabia?

Putting to one side the recent world economic landscape which has made Saudi Arabia a global centre of investment opportunity, the last decade has produced a number of very significant regulatory changes which have combined to stimulate foreign investment in the Kingdom.   These changes include:

  • the passing of the foreign investment laws in 2000, particularly in relation to the ownership of real estate which created benefits, incentives and guarantees in the Kingdom for foreign investment including protection against confiscation, the ability to repatriate profits, government assistance and credit support and industrial loans;
  • the establishment of the Saudi Arabian General Investment Authority (SAGIA) in 2000 which has unquestionably enhanced and encouraged the strategic direction of foreign investment and injected efficiency into the practical processes of that investment
  • the accession to the World Trade Organization in 2005, particularly the commitment to the review of the procurement laws to regulate and facilitate the massive infrastructure expenditure and promote an efficient and competitive investment environment
  • the establishment of the National Competitiveness Centre in 2006 to further enhance competitiveness in the Kingdom;
  • the strategic focus and reforms generated by the 10 x 10 mission to position the Kingdom among the world’s top 10 most competitive economies by 2010; and
  • the reform of the judicial system.

In addition to the above, foreign investment has been drawn to the infrastructure projects announced throughout this period, culminating in November 2008 at the Group of Twenty Finance Ministers and Central Bank Governors (G20) meeting in Washington DC where His Royal Highness King Abdullah, Custodian of the Two Holy Mosques, confirmed that the Kingdom would boost its own economy by funding infrastructure projects.  His Royal Highness expected infrastructure expenditure for the government and oil sectors to exceed US$400 billion over the next five years.  The Kingdom clearly intends to be at the forefront of the implementation of infrastructure projects of genuine significance.

What are the foreign ownerships laws for property?

Real estate ownership in the Kingdom for companies and individuals that are GCC nationals or other foreigners is covered by three key laws and regulations:

The Regulations of Ownership of Real Estate by Nationals of the Gulf Co-operation Council States, which provide the conditions and restrictions for companies and individuals from GCC states to own real estate in the Kingdom;

The Law of Non-Saudis Proprietorship and Investment of Real Estate, which establishes the conditions and restrictions on real estate ownership by non–Saudi  individuals or companies; and

Foreign Investment Law, which deals with foreign investment in the Kingdom and the rights and obligations of foreign investors.

The investment laws combine to confer a number of benefits, incentives and guarantees on licensed foreign investment projects in order to promote a more level playing field with wholly  Saudi/GCC entities.

One of the key recipients of these benefits are foreign investment projects which can be (or need to be) enhanced by the ownership of the real estate associated with the particular investor’s licensed activities.  The Non–Saudi Proprietorship Law entitles foreign investors to own real estate in the Kingdom which is required for the conduct of their professional, technical or economic activities, private residences for housing of a licensed project’s employees or for residential use by individuals with normal legal residency status.

If the investment license permits property development, then the total cost of the project (both land purchase and construction cost) must be at least SR 30 million and invested within 5 years from the date of purchase of the land. 

At this stage, instead of designating areas for possible foreign ownership in the nature of free zone jurisdictions, the Kingdom has left the licensing of site acquisitions to the discretion of SAGIA subject to two areas where there is a prohibition on non-Saudis acquiring real estate, namely land within the city limits of Makkah and Madinah. 

It is also worth noting that there is strict anti-harboring legislation in place which prohibits a non-Saudi from investing in or practicing any activity that the foreign investment laws do not allow him to do.  Moreover, any Saudi citizen who enables inappropriate investment or practice is considered to be a “covering up” (harboring) accomplice.  Severe penalties, including imprisonment, apply.

What effect will the new mortgage law have on the real estate market?

 Saudi Arabia currently has a comparatively low private home ownership rate of just over 20%.  Home loans make up just over 2% of GDP (compared to 20% in Malaysia).  Amongst other effects, this can inhibit wealth distribution, a core social objective in the Kingdom

 A combination of an unregulated non bank lending sector, higher building construction costs, some speculative investment (albeit minimal), limited access to credit financing and available financing packages usually with terms of up to 5 years or 25 years with little in the middle has aggravated the housing deficit, driven rents higher and required developers to fund buyers rather than new developments.

 With no mortgage laws, developers are concerned as to the market for projects and are therefore reluctant to start new projects or be ambitious or creative in planning developments.  They and financiers are also concerned by the difficulties of enforcing security and in obtaining vacant possession.  Accordingly, it is crucial to have an effective housing finance regulatory structure in place to stimulate large scale investment in residential property.

 The mortgage laws should address these issues and unlock the huge business potential of a young population which will drive growth.  Further, due to the Kingdom’s huge land mass, residential expansion is likely to be at a reasonable cost with less inflationary impact.

 Evidence of the importance placed on these new laws can be found in the announcement this week by the Public Investment Fund (the Ministry of Finance’s investment arm) that it plans to take stakes of up to 40% in new mortgage lenders.

 The mortgage laws will assist banks with off balance sheet financing, such as the capital markets.  It may be possible for registered mortgages to be securitized through sukuk issuance which could create the liquidity required for financing further investment.  Looking ahead, the Tadawal stock exchange has already flagged the possible listing of debt securities. 

What changes do you think need to take place in the regulatory environment? Are there plans for registration of property and escrow accounts?

 The government is well aware that efficiency and transparency in the land transfer and registration process is crucial.  As a result, it has initiated the massive and ambitious task of identifying the Kingdom’s land (and all property interests in particular parcels of land) and incorporating that information into a real estate register for each designated realty area.   That is taking place as we speak.

 The main benefit of the new system is that it will provide an investment friendly environment with technically accurate land identities to facilitate property dealings.

 Pursuant to its power to make secular laws, in 2004 the government introduced The Realty in Kind Registration Law.  This law reflects the fact that major development is both planned and under way in the Kingdom. 

 It establishes a decentralized system of land registration and transfer which reflects the approach and methodology of similar systems throughout the world. After a specified period of objection, the register will describe each land parcel in the designated area, its location, legal status, ownership rights and obligations, all in the context of indefeasibility of title (in the absence of a breach of Shari’ah principles or forgery).  The focus is on the identity of the land parcel, with proprietary interests established by reference to registered dealings.  

Whilst this piece of legislation is in force as a law, the provisions of this law are not currently implemented as the title identification process is rolled out.  As a result, there will be a transition period in which there will be a dual system of land transfer registration, namely a combination of the traditional approach (registration with Notary Publics), supplemented by the new law which reflects current international best practice.

However, this dual system has a limited life span.  As the new title identification and registration system under the RKR Law is progressively rolled out, the areas regulated by current practices will reduce, ultimately to a point where the new title identification and registration processes have either replaced or been incorporated into all areas of the Kingdom. 

No-one underestimates the enormity of the task being undertaken by the government to bring all the Kingdom real estate under the new regime.   The Ministry of Justice and the Ministry of Municipal and Rural Affairs (the two responsible government bodies) intend to gradually enforce the new system under the RKR Law over the next 20 years, with newly affected areas to be published in the official government gazette.  However, the system has already been launched in respect of 1,600 real estate units in the Horiymilaa area in the central part of the Kingdom.

In relation to the last point, to my knowledge there are no plans for escrow guarantee accounts in relation to green field sites, only in relation to off the plan sales.

Do you think there need to be regulations for off plan sales?

 Yes, and this is now taking place.

In March, the Council of Ministers resolved to impose restrictions on off the plan sales of real estate in respect of residential, commercial, office, service and industrial units.  The resolution is an interim measure until the proposed “Real Estate Developments Guarantee Account Law” is enacted.

A committee will be formed to examine applications for real estate development. The committee will consist of representatives from the Ministries of Commerce and Industry and Municipal and Rural Affairs, the Saudi Arabian Monetary Agency and the General Commission for Housing.   The committee has been tasked with formulating the conditions that real estate developers must meet, including proof of their technical qualifications and financial capabilities.

As announced, the restrictions will ban the advertising and promotion of development projects in both local and foreign jurisdictions without the consent of the committee. Further, developers will be obliged to establish a bank account into which they must deposit installments paid by purchasers and finance obtained for the project.

The Ministry of Commerce and Industry will establish a register and issue licenses to qualified real estate developers.  Developers must register by June 2009.

In addition, the committee is to draw up provisions that define the rights of consumers, measures to protect consumers from being exploited by real estate developers and brokers, and the operational conditions in joint facilities of any real estate development project.

What legislative framework is in place for REITs?

 Real estate investment  funds are already regulated by the 2006 Real Estate Investment Funds Regulations which have their basis in the Capital Markets Law.

 These Regulations enable investors to participate together in a scheme’s profits, managed by the fund manager for a specified fee, in a regulated manner.  The Regulations include protective measures (such as the obligation on fund managers to comply with the disclosure and transparency rules), together with provisions dealing with governance, valuations, subscriptions and fees.

 In broad terms the Regulations only specifically allow closed end unlisted funds to operate in discrete ways:

  • initial development followed by sale, where the funds owns and develops bare land then subdivides and sells the land and terminates the fund;
  • construction development followed by sale, where the fund owns bare or developed land for construction of units and then sells the units and terminates the fund; and
  • initial or construction development, where the fund leases the property for a specified period then sells and terminates the fund.

 However, innovative structuring can be undertaken under a fourth category of “other” which enables the Capital Market Authority to approve alternative schemes to the above.

 Finally, the Council of Ministers has recently approved the establishment of a committee to oversee the offering of shares in projects.   This committee is likely to be able to audit funds, investigate violations of unit holders’ rights and proper procedures and terminate a fund.

What are the main barriers to entry for foreign investors in the property market?

Having worked in the Kingdom for sometime now, my overall impression is that many barriers to foreign investment are perceived rather than actual.  The clear role of SAGIA is to help prospective investors through the approvals process in a fast and transparent manner.

There are of course some obvious regulatory restrictions, such as the inability of non-Saudi companies to acquire land in the Holy Cities of Makkah and Madinah.

Foreign investment in real estate requires a foreign investment license from SAGIA and, as I mentioned before, there are a number of requirements which must be satisfied before investment is permitted.  In some instances there is a requirement that the total cost of a development project exceed SAR 30 million which is USD$8 million.  This figure might be seen by some as a barrier to some smaller development projects but, this approach is consistent with many countries and is at a level that reflects the need to ensure developments have suitable economies of scale.

GCC entities are generally subject to restrictions in terms of the purpose of the acquisition, the number and size of the properties and time limits for construction of improvements on undeveloped land.

Are there any particular tips you would give potential foreign investors for doing business in Saudi Arabia?

Any proposed investment into a new market obviously requires the application of well established due diligence and feasibility study principles and techniques which identify the potential demand, likely revenue and expenses, present and anticipated competitors, staffing, visas, premises, parent entity liability, repatriation of profits, taxation implications, growth strategies and forecast, overall risk management and a host of other business planning issues. 

In the particular case of the Kingdom, it is essential to commence an early dialogue with SAGIA (the key body regulating foreign investment) and the Ministry of Commerce and Industry in order to confirm that the proposed activities are capable of being permitted, determine the acceptability of any conditions that may attach to those activities, quantify any available incentives and benefits and identify whether regulatory approvals are required from authorities other than SAGIA and the Ministry.  It is also important to focus on understanding very early in the process the technical requirements, advantages and disadvantages of the available business structures and whether Saudi participation will be required. 



Source: Cityscape Intelligence