by José Manuel Pallí
Real property markets in Latin America are beginning to show the kind of changes that should make them more attractive to foreign investment, especially from the United States.
While real property rights constitute a very significant portion of any given people's wealth, in Latin America this source of wealth is largely untapped. The availability of title insurance can help change this.
In the U.S. a secondary mortgage market has provided financing for real estate development ventures which otherwise would be unfeasible. But in most of Latin America even the "primary" mortgage markets are still in diapers. And access to credit collateralized by real estate assets (which represents over 60% of the credit a new-born business receives in the U.S.) remains very restricted.
Financing housing is a major concern for many Latin American governments because of the need to provide low income housing to their constituents-a legacy of decades of populist governments. Consequently, most of the monies available for residential financing in Latin America are channeled through social programs and union pension funds-leaving a small portion for commercial banks to lend directly in the private market. So mortgages trickle rather than flow.
Other obstacles to the development of real estate financing in these countries include the general inadequacy of ancillary financial services, as evidenced, for example, by the dearth of adequate credit history information. Problems in the legal systems of some of these countries together with heavy regulatory and taxation burdens result in very high mortgage origination costs, and an environment in which you do not have the makings of a burgeoning market.
But the fact that the real estate sector in Latin America was for so long devoid of access to capital is precisely what should make emerging Latin American real estate markets the new "high-yield" investment opportunities. In other words, the absence of long-term real estate financing may create favorable investment conditions because speculative building is prevented. Investors with cash are in a good position to find opportunities for construction or acquisition of well-performing assets. Now, some three years after the Mexican peso crisis, Latin American real estate markets are back on the radar screens of foreign investors, including some of the largest U.S. hotel real estate investment trusts in search of properties capable of generating a generous revenue stream.
In fact, since the beginning of this decade, real estate has been one of the best performing assets in Latin America.
A case in point is that of Argentina's IRSA (Invesiones y Representaciones, S.A.), one of the very few real estate companies in Latin America which has successfully approached the international capital markets (NYSE: IRS). Through its portfolio of selected rental and development properties, IRSA has shown an ability to generate stable rental cash flow and consistently good development margins. In fact, when a group of investors led by George Soros bought IRSA for $122,000 six years ago, the company had almost no assets. Today the company's net worth is more than $265 million-thanks largely to the proceeds of a series of equity and debt offerings which the company has used to purchase real estate assets. IRSA is also venturing into Brazil and Venezuela.
In Mexico, the real estate holdings of DESC Sociedad de Fomento Industrial (NYSE: DES) and Fondo Opci\n-the latter organized and operated along the lines of a U.S. real estate investment trust-have also attracted a following among foreign investors.
The Mexican devaluation aftermath- or "tequila effect"-and the deterioration of the banking sector in a number of Latin American countries, resulted in an acceleration of the race towards securitization, and especially towards the origination of mortgage-backed securities. But in order to successfully originate mortgage-backed securities that are internationally marketable, these countries must first undergo a number of fundamental changes and adjustments in their laws and regulations.
Argentina took a big step in this direction with the passage in January 1995 of Law 24,441 of Housing and Construction Financing. The law introduced several legal concepts which should facilitate the securitization process, including uniform standards for investment or financial trusts, personal and real property leasing, freely negotiable mortgage notes (letras hipotecarias), and streamlined foreclosure procedures. These concepts should put Argentina at the forefront of the securitization movement. The mortgage market, although still at an incipient stage, is beginning to grow in Argentina; interest rates are coming down, and the banking industry is being recapitalized. The weather vane for this process is likely to be the winning bid in the coming privatization of the National Mortgage Bank (Banco Hipotecario Nacional).
Mexico has also been exploring the possibility of securitizing mortgages. But changing its legal framework to facilitate this is going to be much more challenging logistically for Mexico than it has been for Argentina. That is because, under the Mexican Constitution, civil laws (unlike commercial laws) cannot be modified or made uniform by the central government; rather, each of Mexico's states will have to act at the local level.
Mexico does enjoy some advantages in the struggle to move towards a developed mortgage market. Its proximity to the U.S. and its membership in NAFTA have given impetus to a needed revamping of its civil and commercial laws, in order to facilitate international trade. Mexico is also one of the few civil law countries where the legal concept of the trust (fideicomiso) has evolved to become comparable to that found in common law jurisdictions.
But again, as mentioned above, a major hindrance to the spread of securitization in Mexico will be the dilution and fragmentation of political power (as is also the case in Brazil). Fiscal reform and deficit reduction are likely to be delayed as a result.
An equally serious hindrance, throughout Latin America, is resistance to what some would call "Americanization" of real estate transactions. Some of the very practices and financial services which facilitate mortgage origination and securitization in the U.S. are viewed, by some, as threatening to Latin mores and cultures.
In those countries where private pension funds are a major source of capital and a target for sellers of home-grown securitized mortgages (Chile, Argentina), this resistance is sometimes difficult to overcome. In those countries where pension funds are barely beyond the planning stage (Mexico, Brazil, Peru), the need to standardize (not merely Americanize) mortgages so that they can be more readily securitized and absorbed by foreign capital markets is likely to prevail.
If standardization of mortgage forms and procedures is to come, there must be a growth in the availability of ancillary financial services, such as credit reporting, appraisal, and title insurance services.
Currently, title insurance is available in Latin America only as underwritten by several U.S. underwriters, including First American Title Insurance Company. There are no local title underwriters because traditionally the function of certifying title has been performed by the notary public.
The role of the notary public in civil law countries-which are throughout continental Europe and Latin America-is vastly different from what is found in the Anglo-American legal environment. As a result, a notarized document in the civil law countries is an entirely different work product (and a more valuable one) that what we in the U.S. call a notarized or authenticated document.
The Civil Law Notary is an attorney who is conferred with the public function of interpreting and giving legal meaning or form to the will of parties to a contract or other formal action, drafting needed documents, keeping original documents (in his notarial book or protocol), and issuing certified copies of the same. He or she helps in giving adequate expression to the transaction at hand, makes sure that it is legally effective and binding, and authenticates documentation. By contrast, in the U.S. authentication is basically the only function that a notary public performs.
So it is fair to say that the Civil Law Notary performs a title assurance function in a conveyance of real property, to the extent he must be satisfied that the grantor has legal authority to transfer title. In doing so, he must verify that the land registry (or public records) shows the grantor as having title to the land which is being conveyed (which should be accurately described, but seldom is).
But in many of these jurisdictions this verification of the last entry (or last vesting) is all the Civil Law Notary does, in turn relying on a certification issued by the land registry at his request, the certification also disclosing encumbrances of record. Obviously, this process falls short of being a detailed investigation of the title and, although notarial fees are, in most countries, regulated by the government or by the notarial bar associations, they are not generally deemed inexpensive.
Far from being perceived as having deficiencies and shortcomings, land registry systems in civil law jurisdictions are exhalted as being safer than their U.S. counterparts. From a strictly conceptual standpoint, such claims of superiority may seem justified since in the U. S. documents can be recorded with relatively little attention having been paid to their preparation, clarity or authenticity. On the other hand, in civil law jurisdictions the registrar or director of the land registry (which is almost universally called "Registro Publico de la Propiedad Inmueble" or Public Registry of Real Property) is more likely to inspect the contents of proffered documents and refuse recordation if he finds something amiss. And once a document is recorded civil law jurisdictions are generally more protective of the rights of good faith purchasers for value who rely on land registry entries.
Still, this strong reliance on the notary public and the registry in civil law countries carries risks for the real property owner or lender. With more than fifteen years' experience investigating land titles in civil law jurisdictions, First American has found that almost every conceivable title problem or defect seen in the U.S. has its counterpart in foreign jurisdictions: frauds, forgeries, faulty surveys, conveyances by a minor or mentally incompetent person, the false representation of a married person as being single, unauthorized action on behalf of a legal entity or business and unknown heirs, among many others. And these risks exist because, although Civil Law Notaries are competent and experienced in most cases- extremely competent in the larger cities like Madrid, Paris, Mexico City or Buenos Aires-they are not infallible.
In fact, the gap between the conceptual superiority of civil law land registry systems and the reality, based on having worked closely with them for years, is far wider than is generally acknowledged. The lack of material and human resources, as well as governments' sense that the need to improve their systems may not rank among their most pressing priorities, are behind this very wide gap.
by José Manuel Pallí is President of World Wide Title, Inc., Miami, Florida, agent of First American for Mexico, and Central and South America.
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