Q: Does opening of an escrow account guarantee completion of a project by developer?
A: No, opening an escrow account does not guarantee a completion of a project. The escrow account in it of itself does not assure that there are sufficient funds to build the entire project. In most circumstances, investors deposited funds in installments. In those cases where installments reached 70% or so, there is more likelihood that there are enough funds to complete the project, provided, however, that the funds were managed in accordance with the law. But if investors deposited only 10%, for example, it is unlikely that those funds are sufficient to complete the project, unless the developer is financing the development, either through its own contributions or through the bank. But in any case, the question of whether there is enough money in escrow depends on whether developers complied with the escrow law at all, and if they did, to what extent and at what point in time. For some time after the escrow law was passed, many developers did not know how to comply with it. Additionally, some key clarifications were needed about the scope of the law itself. For example, it was not clear whether land payments could be made out of escrow funds and if so, in what proportions. Thus, for many months after, it was assumed that land payments were allowed. Land payments, however, often included a payment of the premium, which was always paid first and in full, with the difference paid towards the land installments to the master developer. Therefore, in those cases, a larger percentage of the initial installments was spent on the land, leaving very little for construction. Another issue had to do with whether developers were required to deposit all funds collected before the escrow law came into effect and how that was going to be enforced. This was especially a serious issue insofar as, prior to escrow, many developers spent funds collected for one project on buying other projects. So, developers could comply only prospectively, but not retroactively.
Q: Do escrow accounts safeguard investors’ interest? If so, how?
A: The objective of an escrow account is to provide assurances that the funds raised will be spent properly. The implementation of it, however, depends on the interpretation of the law at relevant points in time and on developers’ willingness to comply with the law. But in general, the principle behind an escrow account is as follows. The money collected for a particular project, must be deposited directly into a separate escrow account set up for that particular project. Every project must have its own escrow account. No money can be deposited into a general company account. No commingling of funds allowed, in other words. That money can then be spent only gradually, in accordance with the construction progress. An escrow trustee, usually an employee of the bank which holds the escrow account, is appointed to manage the account. The bank also appoints a bank engineer to supervise the process. Bank engineer’s decision supersedes that of the developer’s project consultant. The account is managed in accordance with the escrow agreement that is set up between the bank and the developer. The escrow agreement follows the mandates of the escrow law and the subsequent regulations introduced to interpret that law. The developer does not have a direct access to the funds. Only the escrow trustee is allowed to release them, which he does throughout construction, upon developer’s requests. The criteria used in releasing the funds are generally tied to the construction progress. Thus, the developer would submit its audited budget of its expenses for each stage of the construction. The trustee would only release the funds upon satisfactory proof that they were going to be spent legitimately.
Q: Do investors have the right to examine escrow account books?
A: By law, investors have the right to examine escrow account books. Under the law, Article 12, “the depositors or their representatives may examine their account records and request copies.” Thus, the law is clear. And it only makes logical sense, insofar as the very objective of the escrow is to safeguard developer’s funds by ensuring that they are spend in accordance with the law.
Q: What kinds of check are in place to prevent developers from misusing escrow money?
A: Only the account trustee, who is appointed to manage the account, is allowed to release the funds. Developers should not have direct access to the funds. In determining what funds to release and when, the trustee follows a set of criteria, which are set out in a trust agreement between the developer and the bank. The principle of the trust agreement is that the funds are released gradually in accordance with construction milestones. Developers are required to submit satisfactory proof that the money is being used for legitimate purposes, by providing a detailed accounting. There is an account trustee that is in charge of managing the use of the escrow funds in accordance with the escrow agreement. There is also a bank engineer to supervise developer’s project engineering consultant. Any violation by the developer is subject to either civil or criminal penalties or both. The punishment serves as further disincentive for developers to misuse the funds.
Q: How often does the land department seek details of the escrow accounts from account trustees?
A: The Land Department has stated that it works closely with the developers to determine the status of their escrow accounts. It has also represented that it had reviewed all of the escrow accounts and was making decisions accordingly. The details of these efforts and results are not public, however.
Q: Do account trustees face penalties for any mismanagement?
A: Under the law, Article 16, account trustees face penalties for mismanagement of escrow funds. The law imposes penalties on those who misappropriate, embezzle, use or squander funds. The account trustee, by virtue of his position, can commit any one of those violations. Similarly, auditors who deliberately prepare false reports or consultants who knowingly approve false documents are also punished. Account trustees who violate the law, may face imprisonment and/or a payment of a fine not less than AED 100,000. It is up to the court to decide which one of these penalties, criminal or civil, is appropriate.