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Real Estate Legal Technology

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Towards The Next Era of Decentralized Digital Real Estate Transactions and Ownership Recording System

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Real Estate Legal Technology

  1. 1. REAL ESTATE LEGAL TECHNOLOGY Towards The Next Era of Decentralised Digital Real Estate Transactions and Ownership Recording System Elizabeth Siew W.K. LL.B (Hons), CLP Damien Leong C.H. LL.B (Hons) MMU This paper is written based on two assumptions, namely, basic understanding of real estate and secondly, sufficient knowledge and understanding of technology such as artificial intelligence, machine learning and blockchain technology. REAL ESTATE AND THE ‘CENTRALISED’ SYSTEM ‘Real Estate’ is property comprised of land and the buildings on it as well as the natural resources of the land including uncultivated flora and fauna, farmed crops and livestock, water and minerals. There are 3 constants in Real Estate :- 1. SCARCITY. The world cannot produce any more land or earth that is already possesses. 2. CHANGE. It changes in form and use from time to time. For example, a vegetation highland can be levelled and converted into residential land and building be erected on it. 3. PASSING OF HANDS. It passes hand from one individual to another, from time to time. The passing of hand can mean transfer and change in ownership, possession, rights of use and occupation, right of control and so on. While land is scarce, real estate can be expandable. For example, a piece of land measuring in size of 10,000 square feet. Once developed and built upwards into a building, it can ‘produce’ and 'expand' its built-up area to 30,000 square feet. At 1,000 square feet a parcel, a single master title can ‘produce’ 30 strata titles. Accurate and timely records is therefore crucial. Land ownership in ancient England was based on POSSESSION. You had it, you owned it. There were no courts and authorities to recognize or enforce the "LEGAL RIGHTS" as we know them today. Historically the lords who received land directly from the Crown were called TENANT-IN- CHIEF. The right to use or occupy the land was given a term, which was called TENURE. They doled out portions of their land to lesser tenants in exchange for services, who in turn divided it among even lesser tenants. This was the origin of SUB-LETTING. Historically European land ownership was centred around the concept of ‘CONTROL’. Over times, there were many other modes of transfer of ‘ownership’, ‘possession’, ‘control’, ‘rights’ or ‘interest’ being conveyed from person to person, entity to entity : DEED OF TRUST. Where an individual is holding the property ‘on trust’ for the ‘beneficial’ owner of the real estate. LIENS. A right to keep possession of property belonging to another person until a debt owed by that person is discharged.
  2. 2. EASEMENT. A non-possessory interest in another person's land. POWER OF ATTORNEY. Where the owner grants power and authority to his attorney to deal with the real estate on his behalf. Then came along the concept of ‘DEED’ - title ownership via the presence and presentation of the ‘document of proof of ownership’. Though proof of ownership is direct and fast, there were many issues with the Title Deed - loss, damage, mutilation, manipulation and fraud. In the 19th century, the Torrens System was invented in Australia, in which Malaysia land registration is based on today. It is a CENTRALISED land registration system where the State maintain all data and records of ownership and the State guarantees an indefeasible title to those registered in the register. Land ownership is transferred through registration of title instead of using deeds. Its main purpose is to simplify land transactions and to certify ownership is an ‘absolute’ way. But the verification of ownership takes time, costs and the system is not spared of fraud and counterfeiting. The land fraud cases in Malaysia has caused Malaysian millions between 2005 and 2010. In 2007 alone, the loss was recorded at RM10,402,559-00 ! Mohd Sukri Ismail of the Jabatan Ketua Pengarah Tanah dan Galian in 2011 published a paper on ‘Identifying and Overcoming The Risk of Fraud in the Malaysian Electronic Land Administration System, pointed out several land fraud categories :- 1. Fraud by forgery; 2. Forging of transfer or charge form; 3. Registering dealings using Power of Attorney; 3.1 fraud by Solicitors at different authority 3.2 fraud by misrepresentation 3.3 using court order to register dealings 4. fraud by misrepresentation; 5. fraud by alteration; 5.1 fraud by land office administrator 5.2 fraud by system administrator
  3. 3. 6. fraud by hackers; and 7. fraud by credit card payment THE ‘DECENTRALISED’ OWERNERSHIP SYSTEM In the context of today’s Malaysia real estate, NOT ALL real estate ownership is capable of registration through the centralized land registry system. Ownership of many real estate are instead passed through the process of assignment, due to the absence of the individual title deed. Many development sits on a master title or bloc title that are yet to be subdivided. The rights, title, interest and beneficial ownership is assigned from owner to owner through the instrument of Deed of Assignment, Power of Attorney and Deed of Trust. This process will go on till the issuance and availability of individual title, in which event, the principal owner of the master title land will then effect transfer of the title deed to the present owner via an instrument called Memorandum of Transfer (form 14A of the National Land Code 1965). The chain of ownership in such instance is proven by the ORIGINAL copies of ALL the Sale and Purchase Agreements and Deed of Assignments from the first owner to the current owner through the chain of documentary proof. There are in fact two ownership ‘recording system’ co-existing within the Malaysia real estate eco system. On one hand, there is a codified centralized registration system (based on the Torrens System) that provide for indefeasible title to owners of real estate. Once ownership is registered to the Land register, its title is indefeasible. Is The Torrens System Still Relevant And Effective ? The Torrens System was introduced since the 19th century. Since then, society, human behavior and life style has evolved and changed. Hence human’s expectation has correspondingly changed. In today’s society and technology world, high speed and low cost has become a norm. Question is, is the centralized land registration system capable and able to deliver this expectation? Land administration and registration system provided under National Land Code 1965 *Registered proprietorship Legal and beneficial ownership provided under law of contract *Unregistered legal ownership
  4. 4. Problems and issues :- 1. Back log of cases at the centralized registry. Centralization is often synonymous with bulk and bottleneck. Hence speedy registration and recovery of records could be a problem. 2. Human error. From the statistics append hereinabove, it is conclusive that the centralized recording system is not spared of human intervention and manipulation, either negligence or malicious. 3. Cost. Not only it cost money for checking and verification of ownership at the centralized registry, the delay in getting positive result and confirmation is also time costing. And time cost also contributes to opportunity cost. On the other hand, there is a parallel ‘’de-centralised’ ownership recording system through legal instruments and contracts. These records are considered to be ‘off system’. Problems and issues :- 1. No centralized record for checking and verification purpose. 2. Time. The checking and verification process of the ‘de-centralised’ system is cumbersome and it involves all parties along the chain, from the original principal land owner, to the developer, through all past owners and numerous lawyers that are part of the chain. Hence delay in getting the right information, and decision cannot be made timely. 3. Cost. As the process of verification is cumbersome and involves many parties and authorities, it results in high cost. Likewise, time cost and opportunity cost. 4. There is no set and recognized standard for a contract of ownership. Parties’ rights and protection lies on the skill and knowledge of the lawyers drafting the respective contracts. The perfect ownership record system requires a perfect legal system as its backbone. In today’s technology world, is there or could there be an IDEAL SYSTEM for real estate transactions and recording that has every record of every transaction in the country which can be retrievable at one’s convenience. If there could be an ideal system, what will it be ? LEGAL SERVICE DELIVERY IN THE CHAIN OF REAL ESTATE TRANSACTIONS & OWNERSHIP In the real estate transactions and ownership chain, lawyers play an important role, in advisory, drafting and preparation of agreements and transfer documents, acting as stakeholder, and finally as witness.
  5. 5. Until today, there is a mismatch between what the consumers demand and what the lawyers are prepared and willing to supply. While clients are demanding for simple and cost effective contracts, lawyers insist on supplying complicated and ‘complete’ agreements while charging clients time cost. This had worked all these years because lawyers had always been the SOLE supplier of legal services…..until now. The Law Profession is slow to adapt to a new environment and until today there are still law firms that use typewriters rather than computers in Malaysia. Before the lawyers out there to get familiar with the technology, there are plenty of emerging legal technology companies which provides legal services to compete with the expensive and conservative legal profession. However over the years, market pattern has changed with the emergence of Legal Process Outsourcing (LPO) and Legal Tech. LPO refers to the outsourcing of part of the legal delivery service to outside party (non lawyers) who can perform the tasks more efficiently and cost effectively then lawyers. Corporations are utilizing outsource parties to perform task like research, due diligence, document review. Legal Tech refer to the use of IT to perform legal tasks. To name a few, there is RocketLawyer from USA which offer customizable templates to the public members with relatively lower costs as compared to lawyers; Dragon Law from Hong Kong are aiming to disrupt the corporate lawyers legal work by supplying affordable, flexible, and convenient online agreements to the start-ups. The emergence of Legal Technology Companies whom provides legal services reflects the demands of the legal services in the market. What does the emerging of Legal Technology Company signifies in this customer driven market? What technology are capable to offer as a solution? Is it time for lawyers to catch up on the consumer driven market, and for once, give to the market what they need ? Human needs are always the catalyst for the evolvement of technology. With the constant increasing demand for convenience and information at the click of a smart phone, lawyers in 21st century are expected to be well versed with informative technology skills. For the application of technology in legal industries, in general the traditional areas of legal technology can be dissected into few categories: 1 Legal Practice management; 2 Document storage; 3 Billing; 4 Accounting; 5 Contracts Review; 6 Electronic discovery; and 7 Legal research.
  6. 6. With the assistance of technology, lawyers are able to ease their work by taking advantage of technology. For instance, imagine the future Virtual Reality (like the one featured of Facebook recently). Future lawyers need not meet their clients physically to conduct clients’ meeting, instead they can meet in the virtual world for virtual interactions and virtual execution of contracts. Signatures are electronically time stamped. Will lawyers’ attestation on the document eventually become redundant? THE EXTENDED SPHERE OF REAL ESTATE Land life cycle exists in perpetuaty. It really starts from the beginning of time and will not end till the end of time, only changing in form, type and use throughout the history of time. The sphere of its life cycle however can be expanded. For example, a parcel of land that belongs to the State can be alienated to a private developer. The developer will obtain a deed of title from the State with its name registered as registered holder. The developer then applies to Local Council for planning approval of 200 units of residential apartments. During planning submission process, developer appoints its Architect Consultant, Town Planner, C&S Consultant, M&E Consultant, Infra Structure Consultant, Landscape Architect, Surveyor. The Planning approval process within the Local Council involves numerous State Authority departments. The developer then sells the 200 units of apartments to 200 individual buyers, each purchase being financed by banks. There are 200 sale and purchase agreements signed between the buyers and developers at different time throughout the construction period of the project. Bank financing agreements are signed at different times with different banks and financial institutions at different terms and conditions. The above is a summarized version of a typical ‘lifecycle’ of a development project in Malaysia. One can only imagine the amount of paperwork, documents and records that are maintained by all parties at any one time coupled with the need to monitor and enforce different terms and conditions between different parties at different time frame and tenure. SMART CONTRACT In a 2012 presentation in London, Bitcoin developer Mike Hearn popularized the concept of “Smart Property,” a contract of sorts that creates a decentralized system of exchange for any Asset: “Smart property is property whose ownership is controlled via the Bitcoin blockchain, using contracts. Examples could include physical property such as cars, phones or houses. Smart property also includes non-physical property like shares in a company or access rights to a remote computer. Making property smart allows it to be traded with radically less trust. This reduces fraud, mediation fees and allows trades to take place that otherwise would never have happened. For example, it allows strangers to loan you money over the internet taking your smart property as collateral, which should make lending more competitive and thus credit cheaper.”
  7. 7. Conventional Contracts Versus Smart Contract (Computer Codes) Conventional contract is drafted using natural language. Natural language comes with language barriers, subject to cultural differences and interpretation. Smart contract is drafted using codes, which is based on mathematic logic. Mathematic is a universal ‘language’ without language barrier. BLOCKCHAIN “Imagine, for a moment, a global, online ledger, or network of ledgers, listing every single transaction in the world. It's verified immediately by other people using the system, which protects people's privacy, but is transparent enough to allow for oversight from anyone. No one group regulates it, so it's neutral and accessible to anyone with a computer. That is the world that visionaries of the blockchain foresee.” Naomi Lachance, NPR As a matter of fact, the technologies behind block-chain is not new. Blockchain is a combination of four existing technologies put together to create something new. These technologies are well-known: 1. Distributed, open ledgers: A shared, public record; 2. Public-key encryption: A secure method of transferring digital data; 3. Hashing: An elegant solution to retaining an audit trail 4. Consensus protocols: Validating new records to prevent corruption The block-chain technology was introduced in 2008, accredited to Satoshi Nakamoto, the creator of Bitcoin. The blockchain technology was first introduced by Satoshi to cater the financial pitfalls. The creation of bitcoin enables transaction parties to transact without going through a trusted third party, hence to bypass the transaction fees and the supervision of third party. The whole gist of block-chain is the concept of “de-centralisation”. It is a P2P system built based on a “trust-less” environment. In short, it is a technology or tool for the management of information, specifically the records of transactions, with encryption technology. Take bitcoin as an example, each “block” contains detailed information of that particular transaction. Each transaction block is signed and timestamped by digital fingerprint called “Hash” which represents the identity of the transacting parties. At the next transaction, the bitcoin will be then verified by the previous parties called “miners” by verifying the history and information of the previous blocks. From there, the information will be distributed throughout the de-centralised network to another “nodes” as an update. Hence starting from the “genesis block” i.e. the first block, the whole block-chain contained full, detailed, and comprehensive information starting from the origin of the blocks.
  8. 8. What's the Big Deal About Blockchain ? Basically, block-chain can be classified into 2 major types of classifications, namely: 1) Public blockchain; and 2) Consortium Private blockchain. Public Decentralised Blockchain The decentralized public blockchain is the model whereas the bitcoin model based upon. The information is distributed in the public ledger and all nodes in the public decentralized network can get the information via public ledger. Consortium Private Blockchain A consortium private blockchain worked in a way that all data are kept centralised to a privileged network of blockchain. Access to the information can be restricted and layered down to multi-level of authority to access. The access of information can be managed; it could be public or private. The possible application of private blockchain model includes database management, auditing, and more that are internal to a single company.
  9. 9. One of the key proposition of the blockchain is that "value" can be transmitted to other transacting parties. Other than bitcoin, anything carries transaction history in nature can be used as a form of value in a blockchain, in our case, real estate. Just like bitcoins, each and every detail of the transfer of ownership will be recorded, and be verified by numerous of nodes to ascertain the accuracy of the information. In a blockchain, imagine each transaction in a blockchain network is a contract. Each digital contract must be digitally "signed" and the parties must perform the contract. In fact, each and every contract clause can be programmed into programming source code, and with specific coding of the mechanism of a special purpose blockchain, the whole verification process and the execution of the contract of each transaction could also be programmable to be fully or partially automated. For instance, once the contract clauses are defined and programmed to enable a rule-based flow of transactions, smart contracts are the logical result. As a result, blockchain powered smart contract have a high chance to cater to self-enforcement and prevention of fraud. Alan Morrison from PricewaterhouseCoopers, in his paper entitled “Blockchain and smart contract automation: Introduction and forecast” stated that: "By the 2020s, PwC expects that blockchain-based systems used by leading enterprises will have reduced or eliminated many categories of validation and verification friction for simple transactions: anyone will be able to exchange a wide range of digitized or digitally represented assets and value with anyone else. Moreover, these simple transactions will become the basis for smart contracts, a way to automate processes and make them legally binding and self-enforcing at the same time.” By utilizing blockchain technology, it converts paper contracts into programme codes, it can be automated, hence the transaction can be significantly faster. For instance, interbank transaction might take days to process (worse if the transaction was done during weekend). As a contrast, in a decentralized blockchain system, interbank transaction can be done in minutes. CHALLENGES OF BLOCKCHAIN The current challenges for blockchain technology to reach critical mass and achieve main stream adoption:- 1. Regulatory status is still uncertain. In addition thereto, will there ever be a standardized set of rules agreed by all authorities regulating the operation of blockchain. 2. For legal enforcement of blockchain backed contracts, technical literacy of Lawyers and Judges, even law makers are important. 3. Question remains that whether the current Malaysian digital law and regulation covers the scope of blockchain? Will blockchain can be regulated and enforceable
  10. 10. under the law of contract in Malaysia? 4. Since blockchain technology is based on a decentralized system, who will be the party setting the control and security? Furthermore there is need for enforcement of breach of privacy, in the event there is any. 5. Technical challenges of the control of data sharing is crucial as there will be multi- layers of data access. 6. Are all stakeholders in the real estate industry ready to accept and adopt block chain technology to distribute their real estate information and transaction in a decentralized system. 7. A big challenge for the government to adopt and shift from a controlled and centralized data system to a decentralised data system, which the government take less or no control towards the data. 8. Effective blockchain depends highly on the number of nodes to make it effective 9. There are millions of giga bytes stored in the government database storage system. Integrate such huge amount of data to a new incurred high amount of time and cost. CONCLUSION Imagine anything is possible, can the current ‘centralised’ land registration system and real estate transactions and dealings be merged with the manual ‘decentralised’ legal ownership system to form a MASTER SEAMLESS & DECENTRALISED SYSTEM containing blocks and blocks of real estate information and records kept in millions of personal computers, only to be opened by a set of combination of encrypted keys ? - End -