On March 16, 2007, the 5th Session of China’s 10th National People's Congress adopted the Law of the People’s Republic of China on Rights in Rem which will take effect on October 1, 2007.

There are many important legislative innovations in the Law on Rights in Rem, which will have broad and far-reaching impact on the everyday lives of Chinese people, as well as on China’s overall economic development, particularly in the real estate industry. A summary of the important legislative innovations embodied in the Law on Rights in Rem concerning the real estate industry is set forth below.

1. Construction Land Use Rights

i) Automatic Renewal of Residential Construction Land Use Rights

The Law on Rights in Rem clearly states that upon the expiration of the term for residential construction land use rights, such land use rights shall be renewed automatically.1 According to current laws and regulations, the term of residential construction land use rights shall be 70 years. With the development of China’s real estate industry, many real estate purchasers have been concerned that construction land use rights will be taken back by the State after the expiration of its term. The “automatic renewal” provision in the Law on Rights in Rem will relieve such concerns to a certain degree, reinforcing the principle that the State will protect the legitimate private property of its citizens.

However, it should be noted that it is still not clear how the Law on Rights in Rem will affect the renewal of non-residential construction land use rights. The Law on Rights in Rem only states that the renewal of non-residential construction land use rights shall be handled in accordance with the laws.2 Due to the lack of specific provisions under current laws and regulations, the silence of the Law on Rights in Rem in this regard may cause concern among real estate developers who focus on non-residential construction or owners of non-residential properties. Therefore, detailed implementation rules regarding the renewal of non-residential construction land use rights are of great necessity. Nonetheless, the “automatic renewal” provision for residential construction land use rights in this new law is without doubt a positive indication that the same or similar provisions for nonresidential construction land use rights are also likely to be adopted.

ii) Establishment and Use of Construction Land Use Rights

The Law on Rights in Rem restates, emphasizes, and clarifies some issues concerning the use of construction land use rights, including:

a. A construction land use right may be established on the surface of, above, or underneath such land. A newly established construction land use right shall not do harm to the established right of usufruct.3

b. Land for industrial, commercial, tourism, entertainment, and residential purposes, lands for operation purposes, and land for which there are two or more intended users, shall be granted through tendering, auction, and such other methods of public bidding. The establishment of a construction land use right by way of allocation shall be strictly restricted.4

c. The holder of construction land use rights shall be entitled to have the right to transfer, exchange, make capital contribution with, bestow, or mortgage such construction land use rights, except as otherwise proscribed by law.5 Where the construction land use right is transferred, exchanged, made capital contribution with, bestowed, or mortgaged, the parties concerned shall enter into a relevant written contract. The term of use shall be agreed upon by the parties concerned, but shall not exceed the remaining term of the land use right.6

d. The ownership of buildings, structures, and their ancillary facilities constructed by the holder of the construction land use right shall belong to such holder, except as otherwise proven by contrary evidence.7 Where the construction land use right is transferred, exchanged, being contributed with, or bestowed, the buildings, structures, and ancillary facilities attached to such land shall be disposed of together with such rights.8

2. Rights of Real Estate Owners

There are various clauses in the Law on Rights in Rem strengthening the protection of the rights of real estate owners.

i) Equal Protection of the Legal Property of Private Individuals

The Law on Rights in Rem establishes the principle that the rights of the State, private enterprises, social organizations, individuals, and any other right holders in Rem shall receive equal protection under the law. In particular, the Law on Rights in Rem emphasizes that the legal property of private individuals shall be protected by law. Any unit or individual shall be prohibited from encroaching, cheating, dividing privately, intercepting, or destroying such property.9 Such clauses in the Law on Rights in Rem embody the 2004 Amendment to the Constitution of China, which enunciated the principle that a citizen’s legal private property shall not be infringed upon.10

ii) Real Estate Owner’s Building Differentiated Ownership

According to the Law on Rights in Rem, a real estate owner shall have right of ownership to his/her exclusively-owned portion of any residential or business property in a building and shall have the right of co-ownership and joint management of the jointly owned portions of the building.11 This concept is termed “owner’s building differentiated ownership.” The Law on Rights in Rem will introduce many new rules concerning building differentiated ownership, which will not only impact real estate owners, but also real estate developers and brokers.

a. Public premises, public utilities, and property service premises:

According to the Law on Rights in Rem, the roads within a construction zoning area shall be jointly owned by the owners (excluding public roads belonging to the municipality or township). In addition, the land for greenery within the construction zoning area shall be jointly owned by the owners, excluding public greenery land belonging to municipalities and greenery land expressly indicated as privately owned. Other public premises, public utilities, and property service premises in the construction zoning area shall also be jointly owned by the owners.12

In practice, in order to promote the sale of real properties, real estate developers usually promise to present ground-floor purchasers with gardens or greenery land and top-floor purchasers with terraces. However, such activity may be considered illegal under the Law on Rights in Rem. Since the gardens, greenery land, and terraces are subject to joint ownership, real estate developers shall not be entitled to grant them to certain purchasers.

b. Parking spaces and garages planned for parking vehicles:

According to the Law on Rights in Rem, within the construction zoning area, parking spaces and garages planned for parking vehicles shall first be used to satisfy the needs of owners. Within the zoning area, the allocation of parking spaces and garages planned for parking vehicles shall be agreed upon by the parties concerned through sale, gift, leasing, or other such methods. Road-side parking and parking in other jointly owned sites shall also be subject to joint ownership.13

With the rapid growth in the price of real properties, the price of parking and garage spaces has also increased. The “priority” enjoyed by real estate owners under the Law on Rights in Rem will prevent real estate developers from selling parking and garage spaces to other organizations and individuals for profit at the expense of the real property owners.

iii) Neighboring Relationships

Neighboring relationships are highlighted under the Law on Rights in Rem, which will prevent certain illegal activities by real estate developers and real estate right holders. For example, the Law on Rights in Rem dictates that the construction of buildings shall not violate relevant provisions of the State regarding construction projects and shall not obstruct the ventilation, ancient light, or daylight of any neighboring building.14 This clause protects the right of homeowners to enjoy natural light and prevents housing developers from engaging in illegal construction conducts.

The Law on Rights in Rem also stipulates that the rightful occupier of a piece of real estate shall not violate State provisions by discarding solid waste, emitting pollutants into the air, discharging pollutants into the water, making loud noises, projecting light, or releasing magnetic radiation and other such harmful substances.15 In addition, the rightful occupier shall not endanger the safety of any neighboring real estate when excavating the land, constructing buildings, laying ducts or pipes, or installing equipment.16 Where the rightful holder of a piece of real estate has to use neighboring real estate to gain access to a water supply, discharge water, or lay down passages, ducts, or pipes, such right holder shall avoid causing any harm to the right holders of the neighboring real estate to the greatest extent possible. Where such harm is committed, compensation shall be made.17

3. Registration of Real Estate

According to the Law on Rights in Rem, the establishment, modification, transfer, or extinction of a right in rem pertaining to immovable property shall become effective upon registration in accordance with the law. Except as otherwise proscribed by law, no effect shall be given without registration.18 Therefore, the registration system for immovable property will play a vital role in the real estate sector, since real estate is regarded as the most important immovable property. As part of the new law, many changes and innovations will be made to the registration system of immovable properties.

i) Uniformed Registration System

Prior to the promulgation of the Law on Rights in Rem, many administrative authorities, such as land, real estate, industry, and commercial authorities, acted as registration authorities for the establishment, transfer, and guarantee of a right in rem regarding immovable properties.19 Handling of registration by various administrative authorities will surely cause overlaps in registration, impose burdens on rightful owners, and waste resources.

However, according to the Law on Rights in Rem, the State will implement a uniformed registration system for immovable properties. The registration of immovable properties shall be completed with the local registration authority where such immovable property is located. The scope of uniformed registration, the registration authorities, and the registration procedures shall all be prescribed by laws and administrative rules and regulations.20

ii) “Advance Notice” Registration

With the rapid development of the real estate industry, pre-sale has become a very important mode of real estate transaction. However, due to rapid growth in the price of real properties, some real estate development enterprises (REDEs) would sell one set of real property to different purchasers in order to obtain the highest profit, causing great harm to the rights and interests of individual purchasers as well as to the real estate market. Since 2006, measures have been taken by various central authorities to strengthen the management of Presale Licenses and monitor the practice of real estate pre-selling.21 However, ultimately the issue could not be solved by current regulations.

Circumstances will change upon the implementation of the Law on Rights in Rem. According to the Law on Rights in Rem, where the parties concerned have entered into an agreement regarding the sale and purchase of real estate, the parties may apply for advance notice registration from the registration authority in order to protect the future realization of an in rem right. After such advance notice registration, disposal of the real estate without the consent of the right holder in the advance notice registration shall have no effect.22 Therefore, advance notice registration by a purchaser effectively prevents REDEs from selling one set of real property to different parties.

However, there are also restrictions to the advance notice registration system. After advance notice registration, if the purchaser fails to apply for regular registration within three months from the date when regular registration of the real estate can be processed, the advance notice registration shall be void.23

iii) “Objection” Registration

Under the new real estate registration system, registration will become highly effective. Managed by the registration authority, the registration of real estate shall become the basis for property attribution and the substance of a right in rem.24 The particulars recorded in the Real Estate Ownership Certificate shall be consistent with the real estate registration. If discrepancies arise, the real estate registration shall prevail, unless there is evidence of definite mistakes in registration.25

Where a right holder or an interested party believes that the details recorded in a real estate registration is wrong, such party may apply for correction of the registration. If the right holder of record agrees in writing to correct the mistake or there is evidence to substantiate the mistake, then the registration authority shall correct such registration. However, where the right holder of record disagrees with the correction, the interested party may apply for the registration of an objection. If the registration authority registers such an objection and the objecting applicant fails to initiate proceedings within 15 days from the date of the registration of the objection, the objection shall be void. Where the registration of an objection is not justified and causes harm to the right holder of record, the right holder may claim damages against the applicant for objection.26

4. Mortgages

Security rights refer to the right of priority pertaining to secured property that must be repaid when a debtor fails to perform on an outstanding due debt or under other circumstances agreed to by the parties (include mortgages, pledges, and liens). Of the various types of security rights, the most important type in the real estate industry is the mortgage. Compared to previous regulations embodied in the Security Law of China and Judicial Interpretations of the Supreme Court on Some Issues Concerning the Application of Security Law, the Law on Rights in Rem will make substantial changes to the laws governing mortgages.

i) Scope of Permissible Mortgaged Properties

The Law on Rights in Rem enlarges the scope of permissible mortgaged properties. According to the Law on Rights in Rem, all property that is not proscribed by laws and administrative regulations are allowed to be mortgaged. In particular, property that are permitted to be mortgaged include, but are not limited to, the following:

(a) any building and other land appurtenances

(b) any construction land use right

(c) the right to contracted management of barren land and other lands as obtained by means of bid invitation, auction, public consultation, etc.

(d) any manufacturing equipment, raw materials, semi-finished product, and products

(e) any building, vessel, or aircraft under construction, and

(f) any tools of transportation.27

Therefore, any building under construction, together with any construction land use right, can be mortgaged under the Law on Rights in Rem.

ii) The Relationship Between Buildings and Construction Land Use Rights

The Law on Rights in Rem clearly states that where a building is mortgaged, the construction land use rights within the area occupied by the building shall be mortgaged together with the building. Where the construction land use rights are mortgaged, the building on such land shall also be mortgaged together with the land use rights. If the mortgagor fails to mortgage the building and land use rights together as prescribed above, any property not mortgaged shall be deemed by law to have been mortgaged together.28 This provision will have a very significant impact since a large number of buildings are constructed on leased land use rights and the resolution of the separation of building property from land use rights is an obvious challenge for many building owners who do not have ownership of their attached land use rights.

As for any newly constructed buildings, the Law on Rights in Rem states that after the mortgage of construction land use rights, any newly constructed building on such land shall not be treated as mortgaged property. Where such construction land use rights are realized against the mortgage, any newly constructed building on such land shall be disposed of together with the land use rights, but the mortgagee shall have no priority in repayment from the proceeds of newly constructed buildings.29 However, according to the Security Law, which is currently effective, where such construction land use rights are realized against the mortgage, any newly constructed building on such land “can,” rather than “should,” be disposed of together with its construction land use rights.30 The Law on Rights in Rem further states that the construction land use rights of any township, or village enterprise shall not be mortgaged on their own. Where the building of a township, or village enterprise (including, among others, any plant) is mortgaged, the land use rights of the area of land occupied by such buildings shall be mortgaged together.31

iii) Elimination of the Prohibition against “Excessive Mortgages”

According the Security Law, the creditor’s rights that the mortgagor mortgaged shall not exceed the value of the mortgaged property. After being mortgaged, the balance of the property value that exceeds the creditor’s rights can be mortgaged for a second time, but the sum of the mortgages shall not exceed the value of the balance.32 This prohibition against “excessive mortgages” harms the effectiveness of the mortgage mechanism by increasing transaction costs and restricting debtor finances. The Law on Rights in Rem eliminates the prohibition against excessive mortgages, which is significant progress for the security rights system.

iv) Realization of Mortgages

According to the Security Law, only when a debtor fails to perform on a debt due shall a creditor realize mortgages and gain repayment priority with respect to the property.33 However, according to the Law on Rights in Rem, in addition to failure to perform on a due debt, the creditor may realize mortgages under other circumstances agreed to by the parties concerned.34 This is a good manifestation of the “freedom of will” principle, which is propitious for the protection of creditor rights and interests. For example, a creditor may have the debtor agree in the mortgage contract that the funds may only be used for specific purposes, otherwise the creditor may realize the mortgage.

The Law on Rights in Rem effectively decreases the cost of mortgage realizations. According to the Security Law, when the deadline of a debt payment expires, the debt can be paid off, with the agreement of the creditor, by liquidating the subject of the mortgage and converting its value into cash via an auction or direct sale. If the debtor and creditor fail to reach an agreement, the creditor can file suit in court.35 However, considering the litigation costs, attorney fees, and application fees for the courts’ compulsory enforcement, the cost of mortgage realization through litigation will be high. Therefore, in practice, banks often undervalue the mortgaged property when offering loans to enterprises because they have to take into consideration mortgage realization costs. Under the Law on Rights in Rem, when no agreement can be reached between the debtor and creditor regarding mortgage realizations, the creditor may request that the court auction or sell the mortgaged property. Requesting a liquidation of the mortgaged property is a non-litigation procedure and will save costs.