By Shelly Rabinovitch, Foreign Lawyer at Arnall Golden Gregory
Licensed in Israel Only
In America, prospective purchasers enjoy an “inspection period” before the deal is complete. But in Israel, no such inspection period is required. Instead, a prospective purchaser signs a purchase and sale agreement, which contractually constitutes the completion of the transaction.
Other significant differences between the two nations have to do with clearing the title and paying taxes.
Knowing how U.S. and Israeli real estate law compare is crucially important to Israeli investors interested in U.S. properties. Committing to a deal, then suffering an unpleasant legal surprise, is something any investor wants to avoid.
The issue is particularly important now because of strong foreign investment interest in the U.S. More than 50 percent of respondents to the annual survey by AFIRE, the Association of Foreign Investors in Real Estate, said the U.S. provides the best opportunity for capital appreciation. That far outpaces the second and third finishers: the United Kingdom at 30 percent and China at 10 percent. Not since 2003 have 51 percent of AFIRE’s nearly 200 members ranked the U.S. No. 1.
Two-thirds of AFIRE respondents also said they planned to increase their investment in the U.S. this year compared to 2009. And 44 percent rated the U.S. the “most stable and secure real estate investment environment,” well ahead of Germany at 21 percent and Canada at 14 percent.
So it stands to reason that investors in Israel, like their counterparts around the globe, are keenly interested in increasing their U.S. property holdings. With that in mind, let’s take a closer look at some of the key areas where the two countries’ real estate laws differ.
When a purchase and sale agreement is signed in accordance with Israeli law, it is a “done” deal, as this is when the closing occurs. The buyer pays the first installment of the purchase price. That money is held in escrow by an attorney until a warning note, or notice of a pending deal, is registered under the seller’s name in the Land Registration Office, and the parties sign all the necessary paperwork to report the transaction to the tax authorities.
The deal is complete contractually because there is no subsequent inspection period or opt-out period. When a transaction is registered by the Land Registration Office, it is considered done, according to the Israeli Land Law.
In the U.S., however, an inspection period follows the signing of the purchase and sale agreement. The purchaser can inspect, review, consider and approve or disapprove, at the purchaser’s sole discretion, all economic, physical, legal, environmental and other aspects of the property.
At the end of this period, the purchaser may elect to terminate the agreement for any reason or no reason. If that happens, the earnest money paid by the purchaser is normally returned with any accumulated interest.
Similarly, in Israel, prior to the purchase and sale agreement, the parties sign a “term sheet,” which is a primary contract that includes only the main terms of the transaction, such as price, dates, payment schedule, etc. The term sheet is a binding primary agreement and not an agreement that is followed by an inspection period. After an agreed upon period, the final purchase and sale agreement is signed.
In the U.S., if the purchase and sale agreement is not terminated, then a date is set for a closing, at which time the purchaser transfers money to the seller and the transaction, for the most part, is complete. Sometimes a title agent is involved who disburses the funds and records the deeds in the county where the real estate is located.
With respect to title issues, the custom in Israel is that the attorney who represents the purchaser checks title issues for the client. Most real property in Israel is registered at the Land Registration Office, where block and lot numbers, applicable liens, mortgages and easements are all recorded. The purchaser’s attorney is responsible for checking records and making sure there are no contradictory rights.
In the U.S., title insurance companies check the title and the purchaser pays a title insurance fee that provides protection in the event there is something wrong with the title; for example, someone else is claiming ownership or a third party is claiming to have a lien on the property.
If a situation like that occurs in Israel (except in the event of fraud), the purchaser’s attorney can be charged with malpractice, and the parties might find themselves in court trying to prove their rights. A purchaser in the U.S. would look to the title insurance company for recourse and compensation.
Taxing real estate transactions differs substantially in the U.S. and Israel. In Israel, attorneys submit forms that include the purchase price and the details of the transaction. Based on this information, the purchaser pays a purchase tax, which is a percentage of the purchase price, and the seller pays a sales tax (except in special circumstances). The confirmation from the taxing authority that all taxes have been paid is a condition for registering the transaction in the Land Registration Office.
In the U.S., some states charge a transfer tax, which is not a property tax but an excise tax on the privilege of selling property. The security deed cannot be recorded until the transfer tax is paid. Although customarily paid by the seller, either the buyer or the seller may pay the tax as set forth in the agreement. There is also an intangible recording tax on each long-term note secured by real estate. And each state charges a tax, which varies from state to state.
In addition, real estate transactions are subject to capital gains taxes in both countries; but in Israel it is called a betterment tax (for real estate only). The betterment tax rate can be as high as 50 percent; if the property is residential, however, it could be exempt. The tax is paid on the increment between the sale and purchase prices of the property, adjusted to the Israel CPI.
In both countries there are various exceptions to the capital gains tax. Generally, the rate in the U.S. is 15 percent, but President Barack Obama proposes increasing that rate in 2011.
To qualify for the U.S. capital gains tax rate, one needs to hold the property for a lengthy period of time, otherwise the Internal Revenue Service might characterize the income as ordinary income, which is taxed at a higher rate. Israel and the U.S. have a tax treaty, so any capital gains taxes paid in the U.S. by Israeli citizens are deductible in Israel.
Understanding all the ins and outs of a real estate deal in one’s own country is hard enough. But understanding another country’s laws is even harder. So one of the first decisions any Israeli investor should make before investing in U.S. properties is choosing knowledgeable U.S. counsel.
Shelly Rabinovitch, a foreign lawyer licensed to practice in Israel, is a member of the Real Estate Practice Group and Commercial Real Estate / Leasing Practice Team at Arnall Golden Gregory LLP in Atlanta, Georgia.