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Sun 9 Nov 2008 04:00 AM

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Mortgage matters

Dubai's new mortgage law, came into effect on 31 October 2008 with the aim of increasing certainty and investor confidence in Dubai's expanding mortgage sector.

Dubai's new mortgage law, came into effect on 31 October 2008 with the aim of increasing certainty and investor confidence in Dubai's expanding mortgage sector.

The statistics evidencing the growth are nothing short of spectacular: UAE Central Bank published figures show that mortgage lending in the UAE increased 55% over the course of last year and a staggering 568% since 2002.

Much of this has been fuelled by the Dubai real estate boom and the flood of investment in the region. With such rapid expansion in the mortgage sector and the sheer volume of lending secured by mortgages, it has become necessary for the government to tighten the regulations surrounding mortgage activity in Dubai.

Prior to the introduction of the new law, mortgages granted over property located in Dubai were regulated under the UAE Civil Code, a federal law. In broad terms, the provisions of the Civil Code do not address the specific issues that are unique to mortgage transactions today. One of the shortcomings of the Civil Code is that it does not deal with the mortgaging of "off plan" properties, a common practice in Dubai and the new law aims to create some legal certainty over this practice.

Off-Plan Mortgages

Mortgage laws the world over are simplistic in so far as they all contain one fundamental legal principle: in order for a person to grant a mortgage over property it must be the owner of that property.

A common provision like this can be found in Dubai's mortgage law, however the law goes further to stipulate that a party who has acquired an "interest" in a property which is being sold off plan may grant a mortgage over that interest. From a legal perspective this is unusual as a "mortgage" implies that a legal charge is taken over property which exists.

This is not possible where the unit is not yet constructed and legal title has not vested in the purchaser. Therefore, the concept of an "off plan mortgage" is, in a legal sense, quite unique, however the government considers these provisions necessary to cater for the practice of financing purchasers of off plan properties until handover of the unit and transfer of legal title.

Mortgage registration

Central to the mortgage law is the requirement for all mortgages in Dubai (whether over property sold off plan or completed property) to be registered with the Dubai Land Department. If a mortgage is not registered with the Land Department it will be invalid and therefore unenforceable.

Under the law, the Dubai Property Court will not allow a lender to enforce its mortgage unless it has been registered with the Land Department. It means that all mortgages created before and after the introduction of the law on 31 October 2008 will need to be registered with the Land Department prior to any lender seeking to enforce its mortgage in a default scenario.

To register a mortgage, particulars such as the value of the property, the amount of the debt, the period of the mortgage and details of the borrower and lender must be provided.

Provision of this sort of information by the parties to the loan arrangement is consistent with mortgage registration procedures around the world and will enable the Land Department to better regulate property and mortgage transactions in the Emirate.

Mortgage enforcement

The provisions of the law relating to enforcement of mortgages in an event of default are intended to strike a balance between the interests of the borrower and lender. If a borrower defaults under a mortgage, the lender must issue a notice giving the borrower a 30-day period to remedy its default before the lender can commence any enforcement action.

If a borrower does not remedy within 30 days, the lender must apply to the Dubai Property Court for an order to sell the property by public auction. Borrowers can delay the sale by auction for up to a further 60 days if they can persuade the Court that it will be able to repay the debt or that the sale of the property by the lender will cause the borrower "substantial damage".

Unfortunately, there is no indication in the mortgage law as to what amounts to "substantial damage" and presumably this will be determined by the Court based on the circumstances.

After hearing submissions as to the above, the Court will have discretion whether to grant a 60-day extension or permit the lender to sell the property on the open market and recover the amount due. If the sale proceeds from auction are insufficient to cover the debt, the lender may claim the shortfall from the borrower.

The mortgage law lacks detail in respect of lender "self help" remedies, for example there is no legal right for lenders to take possession of the mortgaged property and receive any rents following a borrower's default.

This is a common remedy available to lenders in other jurisdictions and lenders often prefer this route particularly where the mortgaged property is of a commercial or income-generating nature. In total contrast to the above, Article 12 of the law stipulates that a borrower shall be entitled to administer the mortgaged property and collect its yield and revenue until it is foreclosed and sold at public auction. This is unusual certainly by international mortgage law standards.

The law is also lacking provisions dealing with the lender's right to appoint a receiver to the mortgaged property. Specific provisions regulating lenders' duties to exercise due care and skill and act in the best interests of the mortgagor as to the sale price and application of sales proceeds are also absent from the mortgage law.

Lender regulation

The mortgage law regulates who can conduct real estate lending activities in Dubai. Only banks, companies or financial institutions that are duly licensed and registered with the UAE Central Bank to provide finance in the UAE may take mortgage security for loans.

This is a step in the right direction, however this will prevent the use of mortgage security where any individual (or a group of individuals) provide funds to a third party on the basis that the loan would be secured by way of mortgage.

Further, it would seem that registering a mortgage as a legal method of securing payment and or performance obligations under a contractual arrangement such as a one-off joint venture or project financing arrangement will be prohibited unless the party requesting the security becomes registered with the UAE Central Bank.

Other matters contained in the mortgage law

The mortgage law sets out minimum contractual requirements for mortgage documentation which will be implemented by a lender's standard terms of mortgage. The law deals with other basic mortgage law principles such as the relationship with guarantors, priority of mortgages between one or more lenders and special mortgages relating to musatahas, usufructs and long-term leases.

There are some provisions of the law requiring further clarification. Article 18 provides that a lender may "follow the mortgaged property into the hands of any person in possession thereof in order to obtain payment of his claim when due... including any person who has a personal right over the property".

On a literal interpretation, a person who is in possession of the mortgaged property (for example a tenant under a lease contract, which is a personal right) could in theory be subject to a lender's mortgage. This is surely not what was intended by drafters of the law?

Further, Article 32 of the law provides that "property granted by the government to UAE citizens for commercial and residential purposes are excluded from the law and are subject to the applicable orders and directives of the Ruler". In the case of ownership of granted land, it is unclear during what period of ownership this exclusion is intended to apply.

Take the following scenario for example: a developer is granted a large plot of land by the government of Dubai to be developed as a master planned community comprising hundreds of residential units to be sold to end users or investors. It is clear that the mortgage law does not apply to the property during the period that the developer is constructing the units, however its impossible to determine whether this exemption extends to the period after the unit has been handed over to the end user or investor.

It is arguable that a lender's mortgage over any completed units in this particular community would not be subject to the provisions of the mortgage law as the property was initially granted by the government to a UAE citizen and exempted from the mortgage law. If that is in fact the case the mortgage would be subject to the applicable orders and directives of the Ruler, most of which will not be available to the public anyway. The law is quite unclear in this respect and clarification is needed on this point.

Although there are some issues that can be identified from a legal perspective, the mortgage law is a vast improvement on what previously existed under the Civil Code. At a minimum, the law establishes a basic legal framework for the granting, registration and enforcement of mortgages specific to the Emirate of Dubai. This is an important step in the regulation of real estate laws for Dubai and should be welcomed by the market.

Courtesy of Dean Cheesley, Senior Legal Consultant, DLA Piper, Dubai