Legal challenges in renting out multifamily properties in Latin America
Legal challenges in renting out multifamily properties in Latin America
Renting or leasing residential properties has its own legislation in the various Latin American jurisdictions, for both private renters and professional investors alike. In this article we look at multifamily properties, a type of property with its own peculiar characteristics that requires a more careful legal analysis. Here Garrigues Latam legal professionals tackle the legal challenges that need to be considered when assessing and conducting a multifamily property business, and describe how a few of these problems are dealt with under the legislation in force in Mexico, Colombia, Brazil, Peru and Chile.
Now that leasing out residential properties has become attractive for a variety of reasons, the multifamily property model is gaining ground. These are residential properties divided into housing units for rental only and owned by one investor who manages the property directly or through an operator specialized in the administration and management of these types of assets. A number of amenities are provided alongside the rented housing unit (lounges, gyms, co-working areas, among others) together with additional services such as bathrooms, a laundry, a gym, among others; which makes housing a professional investment asset.
This mechanism, which can be a very reasonable investment asset, and a desirable housing alternative, requires certainty and predictability in a range of factors, from the characteristics of the asset and its environment (units program, amenities, connectivity, services, etc.), the applicable legislation, efficiency of the public authorities issuing permits and authorizations, the characteristics of the property developer and its contractors, and later the operator’s experience. The reason is that the success of the mechanism is contingent on the ability to achieve and maintain a stream of income to recover the investment and secure a profit, as well as on maintaining the properties in top condition for them to be attractive.
From a legal standpoint, these factors pose several challenges.
Peculiar characteristics of multifamily properties
The first point to consider is that the right to housing is one of the so-called third generation human rights, recognized by both the Universal Declaration of Human Rights (article 25.1), and by the International Covenant on Economic, Social and Cultural Rights (article 11). This does not occur with other rental properties.
Perhaps because of this, and even before this recognition, Latin American countries laid down special rights for leasing residential properties, on top of those provided for other types of real property leases, which are unwaivable in several cases.
It is not usual either for a residential lease to be so closely connected with access to other amenities and additional services, by joining in practice the leasing of a thing (a housing unit) with the provision of services.
Moreover, the fact that these types of leases are built on the basis of a clearly civil agreement, such as a real property lease agreement, means that the professional activity of managing and operating multifamily properties poses challenges to anyone interested in this activity that differ from those faced by people who have rented or leased out housing under more traditional arrangements.
Public policy provisions
In Mexico, residential leases are governed by the law of each state, in other words they are legislated locally. Moreover, these provisions generally tend to protect the lessee and fall within public policy, which means that the parties cannot agree to anything that goes against public policy, and if they do, the clauses could be held null and void.
A few provisions of this type applicable in Mexico City allow rent payments to be suspended or the agreement to be terminated even, as described below:
- if the lessor fails to make the necessary repairs for the intended use of the property, the lessee will be able to choose to terminate the lease agreement; and
- the lessor is liable for defects in the leased property that prevent its use, even if the lessor was unaware of them or they had appeared during the lease term, and were not the lessee's fault; the lessee may ask for a rent reduction or termination of the agreement, unless it is proven that the lessee knew about the defects in the leased property before the agreement was concluded.
These provisions transfer all of the risk to the lessor and pose a risk for the predictable stream of rental income, so it is important to bear them in mind and put remedy and protection mechanisms in place for the lessor, to balance the risks between the parties.
Mechanism for managing multifamily services
In Colombia, the law on multifamily properties has traditionally been based on the horizontal property or condominium property system, a mechanism under which the property is divided into privately owned units and communal areas, which the other co-owners own in a share determined by the square meters of their private units.
Although this mechanism has traditionally reaped benefits in terms of ensuring that communal areas are managed and can be enjoyed (movie rooms, gyms, co-working spaces, among others) by all the co-owners, it does not appear to be completely advantageous for private investors seeking to own all the housing units, due to the regulatory restrictions contained in Law 675 of 2001 in relation to the ability to make economic use of communal areas or to distribute the surpluses obtained from their economic use where possible.
For that reason, the real estate market has used other devices that are an easier option for investment, economic use and management by professional investors such as funds or financial institutions, among others, which seek to make the best economic use of all communal areas –or areas outside the housing or commercial units– as do real estate trusts.
Real estate trusts, administered by entities supervised by the Colombian Financial Supervision Agency, provide a much more practical arrangement for owning multifamily properties by (i) allowing greater tax efficiency for ownership of the properties, (ii) centralizing the operation of multifamily buildings under carefully designed rules that also provide protection for customers of housing services, (iii) putting in place governance rules that simplify decision-making, and (iv) providing a much more efficient way of ensuring economic use of all useful areas of the building, and with it, the distribution of any surpluses or gains arising as a result.
Trust mechanisms also bring considerable reliability for Colombian consumers, so the entry of professional investors in multifamily segments through this mechanism brings an interesting balance between the flexibility required to conduct real estate businesses while mitigating the impact of the risks involved in traditional residential leases, associated with consumers’ rights.
There is no doubt that in the current climate and with the existing appetite for investment in multifamily mechanisms, enhancements will continue to appear regarding the management of these types of investments from a legal standpoint, especially as regards the problems typically associated with residential leases and lessees’ rights with respect to the termination of lease agreements and eviction processes if they are breached.
* content prepared in conjunction with Brazilian firm NBF|A
The multifamily property business model is relatively new in Brazil. It is used by a few agents in the structuring of their businesses although this format does not currently occupy an important space in the market.
From a legal standpoint, there is no specific legislation on this type of business device (unlike other business models used in other countries such as time sharing -“condomínio em multipropriedade” in Portuguese- and regulated in article 1.358-B et seq. of the Civil Code), so it is an “atypical” or undefined agreement which may fall under different pieces of legislation, including:
- Law no 82.245/91, also known as the Tenancy Law in Portuguese, which contains the main rights and obligations under rental agreements; and
- The provisions in the Civil Code dealing with the provision of services (article 593 et seq.) and regulating the co-ownership of real property (condominiums) (article 1,331 et seq.).;
Additionally, for institutional investors there is the option of structuring the investment vehicle as a Real Estate Investment Fund (FII), under Law no 8.668/93 and CVM Instruction no 472.
Eviction in the event of a breach by the lessee
Legal procedures to recover leased properties in the event of a breach by the lessee, have traditionally been slow and cumbersome in Peru, due to the need to fulfill the applicable legal requirements, slow judicial timing and the need for applicable laws to provide suitable protection for tenants.
To simplify these procedures and provide suitable protection for lessors’ rights, Law No. 30933 was adopted in Peru in 2019, which provides that anyone who considers they have a right to regain possession of a leased property and has met resistance from a tenant, can request a notary’s services to commence an eviction process, if they meet primarily the following requirements:
- The lease agreement must have been granted before a public notary or on a “Single Form for a Residential Lease” under the regulations in Legislative Decree no 1177.
- The property must be identified separately and clearly in the agreement.
- The agreement must contain an “early repossession clause” to regain possession of the property, due to expiry of the agreement or its termination by reason of non-payment.
- The parties must have expressly given their consent for Law No. 30933 to apply.
- The parties must have stipulated that the rent payable shall be payable through an entity of the Peruvian financial system (that is, supervised by the SBS, the Peruvian Superintendence which oversees financial institutions) stating the rent rate and applicable currency.
- It must not relate to a “rental and sale” agreement or any other under which rent payments are stipulated as part of a purchase price; and
- A request must have been made through a notary public to the tenant for recovery of the property, due to expiry of the agreement or its termination by reason of non-payment.
Adapting the multifamily operator models to the requirements of Law No. 30933 could place lessors in a better position for the eviction process in the event of a breach.
Is the lessee a consumer under the consumer protection legislation?
In the lease agreement, the lessor agrees to allow the use of property and the lessee agrees to pay a given price for that use. In that respect it is a regular type of civil agreement. Typically in the management of a multifamily property business, besides leasing out properties, the lessor offers or makes available to lessees, directly or through specialized operators, a range of additional services and amenities.
The question is therefore whether as a result of this, the lessor is subject to the Consumer Protection Law under Chilean legislation.
Broadly speaking, the Consumer Protection Law was adopted to provide the rules governing relationships between suppliers and consumers. Consumers or users are individuals or legal entities which, under any legal transaction for consideration, acquire, use or enjoy goods or services, as end customers; and suppliers are individuals or legal entities, which ordinarily carry on production, manufacturing, distribution or marketing activities for the supply of goods or services to consumers, in exchange for which they charge a price or rate.
Additionally, in article 2 letter c) the law provides that, any acts or contracts under which the supplier agrees to supply to the consumer or user the use or enjoyment of real property for specific, uninterrupted or separate periods, not longer than three months, fall within its scope, if the properties are furnished and supplied for rest or tourism purposes (in other words, typically time sharing agreements). This means that the traditional residential lease agreements for the lessee's actual home are subject to the Consumer Protection Law, by reason of their purpose and their term. In Chile residential lease agreements are usually signed initially for a one-year term.
Any additional services provided by the lessor would, however, fall under the Consumer Protection Law and attention will be needed to see whether due to the rising numbers of buildings used as multifamily properties the courts will extend protection of the lessor/consumer to lease agreements of this type, or the legislation will evolve to include them specifically within its scope, as happened in the past with agreements for the sale of housing units made by construction and real estate companies, or even with building quality standards.
Do the terms and conditions offered in the advertising for amenities and available services form part of the lease agreement? Can the lease agreement be terminated if they are not fulfilled? These are questions that should be asked by anyone embarking on these types of real estate leases.