How ef­fec­tive is an es­crow ac­count?

While cre­ation of such an ac­count brings in trans­parency, it does not guar­an­tee that funds will flow in from sales. Projects can still get stuck if there aren’t enough in­ter­ested buy­ers

HT Estates - - HTESTATES - Van­dana Ram­nani

If one were t o go by t he present gov­ern­ment’s ver­sion of the land ac­qui­si­tion bill, one will find that it al­lows builders to de­posit only 50% of the money col­lected from prospec­tive buy­ers in an es­crow ac­count as against 70% in the UPA-era bill in­tro­duced in the up­per House of Par­lia­ment in 2013.

This week news re­ports said that BJP MPs had en­dorsed that the gov­ern­ment aban­don 12 of the 15 key amend­ments to the bill which meant that BJP MPs were vir­tu­ally ask­ing the gov­ern­ment to re­store the UPA’s land laws.

No mat­ter which ver­sion of the bill is even­tu­ally passed, real es­tate ex­perts are of the view that the prac­tice of set­ting aside a cer­tain amount in an es­crow ac­count be­fore start­ing a pro­ject is not some­thing new and that even if the bill were to im­pose such a reg­u­la­tion, it may not do much good in the ab­sence of ef­fec­tive im­ple­men­ta­tion.

“While the cre­ation of an es­crow ac­count has been pro­posed in the real es­tate reg­u­la­tory bill, this prac­tice has been in ex­is­tence for a long time.

Most of the private equity play­ers/ for­eign in­vestors pre­ferred to have an es­crow ac­count for the projects they in­vested in. An es­crow ac­count pro­vides an as­sur­ance that the developer, in all prob­a­bil­ity, would de­liver the pro­ject on time. More­over, the PE funds/in­vestors ap­point in­de­pen­dent agen­cies to pro­vide as­sur­ance on the funds util­i­sa­tion as well as the progress of t he pro­ject,” says Su­nil

Me­hta, director, in­fra­struc­ture, in­dus­trial and con­sumer, Ernst and Young (EY).

I f one were t o go by t he present gov­ern­ment’s ver­sion of the bill, de­vel­op­ers have to open a sep­a­rate bank ac­count ( es­crow ac­count) f or each pro­ject and will have to set aside 50% of the buyer’s money. This amount can be used only for the con­struc­tion of that par­tic­u­lar pro­ject.

“This will go a long way in en­sur­ing trans­parency in each pro­ject and will even lower the risk of len­ders, al­low­ing de­vel­op­ers to ac­cess low- in­ter­est debt in the new land ac­qui­si­tions, since banks do not fund land pur­chases in In­dia. This is likely to in­crease the trend of joint de­vel­op­ment against the cur­rent prac­tice of ac­quir­ing the land bank by over-lever­ag­ing their po­si­tions,” says Me­hta.

Is the 50% amount much lower than the 70% amount pro­posed by the UPA in an es­crow ac­count? “A 70% cut might have been ex­ces­sive in the case of cities where the developer has al­ready in­vested a con­sid­er­able amount in buy­ing land; if de­vel­op­ers have to wait for one to two years to be­gin the pro­ject be­fore get­ting all the ap­provals, it would have im­pacted their cash flow po­si­tion,” he adds.

What this means is that set­ting aside 50% to 70% of the amount in an es­crow ac­count might not make sense for met­ros like Mum­bai or Delhi where land costs are huge, but might work in cities such as Meerut, Vishaka­p­at­nam or Sohna Road. There­fore, this amount should have been made more flex­i­ble de­pend­ing on the lo­ca­tion and the land price of the pro­ject and the for­mat to be con­structed. A lux­ury pro­ject will cost much more than an af­ford­able one.

C r e a t i o n o f a n e s c r ow ac­count cre­ates trans­parency in the money flow and makes it manda­tory for the developer to de­posit a cer­tain amount in the ac­count and use it for a spe­cific pur­pose. While it may en­sure that pro­ject con­struc­tion is fi­nanced to a cer­tain ex­tent, it can­not make sure that the funds to be re­alised from sales will also flow in. “The pro­ject can still get stuck if there are not enough buy­ers. The suc­cess of the pro­ject en­tirely de­pends on the finance model and the pro­ject fea­si­bil­ity. The es­crow ac­count as a con­cept world­wide is a mech­a­nism to en­sure fund­ing is avail­able for a spe­cific pro­ject to be com­pleted or a mech­a­nism to en­sure funds of a par­tic­u­lar pro­ject are utilised for that pro­ject. How­ever, the mech­a­nism is only ef­fec­tive if the same bal­ances – both the in­ter­est of the fund­ing agency and the developer are en­sured and there is a set of good dili­gence pro­ce­dures that are ex­er­cised at the time of set­ting up the fund and ev­ery sub­se­quent dis­bur­sal is ad­e­quately con­trolled,” adds Neeraj Bansal, head of real es­tate and con­struc­tion, KPMG in In­dia.

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