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Hong Kong Law Reform Commission |
3.1 There is at present no standard form of preliminary agreement for
the buying and selling of residential properties between private individuals in
the second-hand market. Most preliminary agreements contain basic terms such as
a brief description of the property, the price, payment schedules, the date of
the formal agreement for sale and purchase ("the formal ASP") and the date of
completion of sale and purchase. Other terms are a matter for negotiation
between the parties. Whether particular terms are included or not will depend
very much on the parties' relative bargaining power and the market conditions at
the time. If an estate agent is involved, the parties will invariably adopt the
pro-forma provided by the estate agent. Such pro-forma preliminary agreements
are not uniform, though their main terms are essentially the same.
3.2 In Hong Kong, lawyers are usually appointed after a preliminary
agreement has been signed. The usual practice is for the vendor and purchaser
to sign the pro-forma preliminary agreement prepared by the estate agent. The
estate agent will then pass a copy of the signed preliminary agreement to the
solicitors acting for the parties. The solicitors will prepare the formal ASP
on the basis of the preliminary agreement and any further instructions from the
parties.
3.3 As a preliminary agreement is signed without the scrutiny
and advice of a solicitor, its terms may not be in the best interests of the
purchaser. Even if the preliminary agreement has been drafted by a lawyer it
may have been amended by the estate agent or by the parties themselves who are
not legally trained. We consider in this chapter whether certain standard
clauses should be included in the preliminary agreement. Purchasers would
obtain additional protection if standard clauses of potential benefit to them
were included in the preliminary agreement. Although homebuyers would be
provided greater protection if there were also certain standard clauses in the
formal ASP, we make no formal recommendation in that respect as our terms of
reference are confined to pre-contractual matters.
3.4 We are indebted
to the Property Law Group of the Australian Law Council for having supplied the
Sub-committee with a sample standard form of residential property contracts used
in various states of Australia. We have considered some of the contract clauses
in these standard form residential property contracts and are impressed with the
Australian approach, which gives considerable protection to
purchasers.[46] Whilst the
Australian approach is conducive to consumer protection, some aspects may not be
feasible for Hong Kong.[47]
However, some of their standard clauses could be applied to Hong
Kong.
3.5 We have chosen to look at the Australian model as it is the
only jurisdiction of which we are aware which satisfies the criteria of having
both a conveyancing system similar to ours in that there is an immediate binding
agreement, and standard clauses relating to such matters as a cooling-off period
and a contract subject to finance.
3.6 We discuss below the
desirability and feasibility of inserting into the preliminary agreement
standard clauses relating to a cooling-off period, contract subject to finance,
survey report and inspection of property prior to completion.
3.7 In Victoria, Australia, a purchaser is entitled to a
three-day cooling-off period. In exercising the right to rescind the contract
during the cooling-off period, the purchaser must give written notice of
his intention to do so to the vendor or his agent. The purchaser
must forfeit $100 or 0.2 percent of the purchase price (whichever is
greater). The three-day cooling-off period does not apply in certain
circumstances, such as where the property is worth more than A$250,000; where
independent legal advice has been obtained before signing the contract; or the
purchaser has previously signed a similar contract for the same
property.[48]
3.8 There are
a number of arguments which favour the introduction of a cooling-off period in
the second-hand market. Firstly, while there may be less likelihood of a
pressured sale where the vendor is an individual selling a second-hand flat
rather than a developer selling a new property, there may nevertheless be
circumstances where a purchaser is persuaded to enter into a contract against
his better judgment by an aggressive estate agent or vendor. The provision of a
cooling-off period allows the purchaser to withdraw from the preliminary
agreement if he subsequently considers it not to be in his best interests to
complete the transaction. Secondly, it is common practice in Hong Kong for the
preliminary agreement to be completed by the purchaser without the benefit of
legal advice. The cooling-off period provides the purchaser with an opportunity
to obtain professional advice before committing himself further. Thirdly, the
cooling-off period gives the purchaser time to ensure that any necessary
financing arrangements are in place to enable the transaction to go
forward.
3.9 It may be argued that a cooling-off period is unnecessary
in the second-hand market. In the first-hand market, developers can afford to
launch large advertising campaigns to create enthusiasm and attract potential
purchasers. Potential purchasers could be vulnerable to the effects of such
advertising campaigns and make hasty purchase decisions. A cooling-off period
is therefore necessary to give purchasers in the first-hand market a chance to
reconsider their transactions. Private vendors in the second-hand market,
however, cannot afford such advertising campaigns and so it is unnecessary to
give a purchaser a chance to opt out on second thoughts. While accepting that
the nature of the pressure applied in the second-hand market is of a different
character, we believe that the risk of a purchaser being pressed to enter a
transaction remains. A purchaser can still be subject to pressure or persuasion
to buy made face-to-face by the vendor himself or an estate agent acting for
him.
3.10 Some respondents to the consultation paper expressed doubt at
the necessity for a cooling-off period on the ground that there is an existing
mechanism for parties to a preliminary agreement for sale and purchase to
withdraw from the transaction. Estate agents commonly use a preliminary
agreement containing a standard withdrawal clause. The clause allows either
party to withdraw from the transaction before signing the formal ASP, subject to
the return of a sum equal to twice the deposit (in the case of default by the
vendor) or forfeiture of the deposit (in the case of default by the purchaser).
The time to sign the formal ASP is to be decided by the parties themselves but
is usually seven to 14 days after the preliminary agreement. In our view, even
though the existing clause is widely adopted in preliminary agreements, there is
much to be said for applying a common provision to all preliminary agreements.
This would avoid confusion, and would assist in making all parties aware of
their rights and obligations. In addition, it is possible for the parties to
agree to delete the existing clause allowing withdrawal; it will not be possible
to opt out of the proposed standard clause providing for cooling-off period.
3.11 Another major argument against a cooling-off period is that it
would fuel speculation. We consider that a provision for the forfeiture of a
specified percentage of the purchase price would work as an effective deterrent
to potential speculative activities. We note that a similar arrangement has
worked well in the pre-sale of uncompleted residential units under the Consent
Scheme.
3.12 The consultation paper proposed that the cooling-off
period should be applicable to the purchaser only. The reasoning is that the
vendor would obviously know more about the property than the purchaser. The
purchaser would therefore need more time to consider and so the cooling-off
period should be of use to him. The consultation paper suggested that, in order
to be fair to the vendor, the purchaser should not have the right to sub-sell
during the cooling-off period. It was thought that a prohibition on sub-sale
during the cooling-off period would also prevent speculation.
3.13 Most
respondents took the view that the proposed cooling-off period should be
available equally to both the vendor and the purchaser. They argued that the
spirit of a contract lies in fairness and impartiality, and so the interests of
all parties should be subject to the same protection. We agree with this line
of argument and have adjusted the original recommendation to make the proposed
cooling-off period equally applicable to both parties to a
transaction.
3.14 Under the Consent Scheme, a purchaser who does not
execute the formal ASP after signing a preliminary agreement is liable to
forfeiture of five percent of the purchase price or the amount of the
preliminary deposit, whichever is lower. The ASP must be signed by the
purchaser within three working days of signing the preliminary agreement and by
the developer within a further seven working days thereafter. We consider the
level of forfeiture in the Consent Scheme is appropriate and should be adopted
in respect of the proposed cooling-off period.
3.15 It is noted that
in Victoria, the cooling-off period is not applicable to the sale of
properties worth more than A$250,000. We see no good reason to confine
the benefit of a cooling-off period to purchasers of lower-end properties as in
the case of the Australian model.
3.16 In respect of the length
of the cooling-off period, we think that this should be short but realistic. We
see the choice as one between the Australian model of three clear days and the
Consent Scheme of three working days. On balance, we prefer a cooling-off
period of three working days in order to be consistent with the Consent Scheme.
Three working days should be sufficient for a purchaser to satisfy himself that
he still wishes to go ahead with the transaction.
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Recommendation 4 We recommend that the preliminary agreement for the purchase of second-hand completed flats should contain a standard clause giving the vendor and the purchaser a cooling-off period of three working days. In exercising the right to rescind the preliminary agreement during the cooling-off period, the party electing to rescind should be liable to forfeit to the other party an amount equal to five per cent of the purchase price or the preliminary deposit, whichever is the lower. The parties should not have the right to sub-sell during the cooling-off period. |
3.17 The standard form contracts of several jurisdictions in
Australia contain a "subject-to-finance" clause. In Victoria, where a lender is
nominated in the contract, the purchaser can end the contract if the loan is not
approved by the "approval date". However, in order to exercise this right to
end the contract the purchaser must, inter alia, have made immediate
application for the loan and done "everything reasonably required" to obtain
approval of the
loan.[49]
3.18 In the
Northern Territory of Australia, if a lender is named in the contract, the
contract will be conditional upon the purchaser obtaining the named finance by
an approval date. The purchaser must make immediate application to the lender
for a loan on the "then prevailing conditions as to interest rate, term and rate
of payment". The purchaser must "diligently pursue" that application, give such
security, and "do all such acts and pay all such fees as the lender may
reasonably require". If the purchaser fails to obtain the loan by the specified
date of approval, he may rescind the contract by giving written notice within
two days of that
date.[50]
3.19 In Hong Kong,
sale subject to finance is already in place in some special forms of contract.
For example, the standard preliminary agreement used in the Home Ownership
Scheme (HOS) contains a "subject to finance" clause providing that the
preliminary agreement is conditional upon the purchaser being able to obtain a
loan by "using due diligence and completing the necessary
formalities".[51] If the vendor is
satisfied that the purchaser cannot obtain such a loan, the preliminary
agreement will be rescinded and all money already paid by the purchaser will be
returned without interest, costs or compensation. The vendor is entitled to
charge an administrative fee, the amount of which is at the discretion of the
vendor.
3.20 The idea of making the preliminary agreement subject to
finance is controversial and the Sub-committee was divided in its views. Those
in favour of a "subject to finance" clause would cite instances of banks pulling
out of their original commitment to provide finance to purchasers during the
onset of the recent recession. Purchasers were caught by surprise by the banks'
sudden withdrawal of finance. The idea of making contracts subject to finance
would be helpful to purchasers in such circumstances. If their loans were
withdrawn by the bank, they could rescind the preliminary agreement and obtain
from the vendor a refund of the deposit.
3.21 A counter-argument is that
banks are now keen to grant mortgage loans and there is intense competition
among banks for mortgage customers. A further argument in favour of a "subject
to finance" clause is that HOS contracts are already subject to finance. HOS
contracts are, however, of a special kind in that the Housing Authority will
guarantee the purchaser’s outstanding loan and interest. Hence, it is
very unusual for banks to go back on their loan promises to HOS
purchasers.
3.22 A "subject to finance" clause in the preliminary
agreement would give a purchaser an additional opportunity to back out of the
transaction. If the purchase turns out not to be to his advantage, a purchaser
could convince the bank not to grant him a loan. Yet a carefully worded
"subject to finance" clause might discourage this from
happening.
3.23 The particular formulation of the clause could serve to
prevent abuse by purchasers. For instance, the clause used in Victoria requires
the purchaser to make immediate application for a loan and to do "everything
reasonably required" to obtain approval of the loan. The clause in the Northern
Territory requires the purchaser to "diligently pursue" the application for a
loan, give such security, and "do all such acts and pay all such fees as the
lender may reasonably require". The HOS clause requires the purchaser to try to
obtain a loan by "using due diligence and completing the necessary formalities".
The Australian approach which requires the name of the lender bank to be
inserted in the preliminary agreement would, however, be unworkable in Hong Kong
since banks seldom come into play at such an early stage of the transaction.
3.24 Another principal argument against a "subject to finance" clause
is that banks are less likely to go back on their loan promises in the case of
completed properties. We understand that the majority of transactions are
completed within one month of the preliminary agreement. It is unlikely that
banks would change their loan promises within such a relatively short period of
time, though that might happen in a turbulent economic downturn such as that
experienced in late 1997.
3.25 A "subject-to-finance" clause may not be
necessary if purchasers have the benefit of a cooling-off period such as we have
recommended. The cooling-off period would provide purchasers with an
opportunity to arrange finance. If that proves unsuccessful, a purchaser can
take advantage of the cooling-off period to rescind the agreement. It would,
however, remain open to the bank to back out before the facility papers are
signed.
3.26 The idea of a "subject-to-finance" clause in the
preliminary agreement was the subject of considerable debate in the
Sub-committee and they concluded that such a clause was not necessary. All
respondents to the consultation paper who commented on a "subject-to-finance"
clause were against such an idea. They considered that it should be a
purchaser’s duty to take prudent steps to ascertain the availability of a
mortgage loan before committing himself to a transaction. It is relatively easy
for a prospective purchaser to obtain from a bank or financial institution an
indication of the amount of mortgage loan that will be made available to him.
We have taken account of these views and have therefore decided against the
idea of including a "subject-to-finance" clause in the preliminary
agreement.
3.27 The standard form contract in Queensland in Australia provides
the purchaser with a right to obtain a building report on the property. The
contract is subject to the purchaser's obtaining a building report on the
property by the "Building Inspection Date". The purchaser must take all
reasonable steps to obtain the report. The purchaser may terminate the contract
by notice at any time before 5 pm on the Building Inspection Date if the report
is "unsatisfactory to the buyer". However, if the purchaser does not terminate
the contract by 5 pm on the Building Inspection Date, he will be treated as
being satisfied with the building inspection
report.[52]
3.28 It has been
suggested in Hong Kong that a vendor of second-hand property should provide a
survey report of any refitting that might affect the internal structure of the
premises. This has arisen from the judicial
view[53] that the vendor's
solicitors should determine with the help of a surveyor whether the property
incorporates any unauthorised building work. If there is any such work, the
vendor can then qualify the title. This judicial view strengthens the argument
for granting the purchaser a right to obtain a survey report at least in
relation to illegal or unauthorised structures. Whilst we consider that a
surveyor's report is useful in relation to the existence of illegal structures,
the difficulty is that a surveyor cannot tell whether there have been structural
alterations, or illegal or unauthorised building works, without the original
building plans, and these may take some time to obtain.
3.29 It has been
suggested that it may instead be possible to rely on the Assignment Plan to
figure out the partition wall and the core wall with a view to ascertaining any
unauthorised alterations. However, the Assignment Plan shows only the thickness
of the walls. Moreover, no professional would be willing to rely upon the
Assignment Plan alone to make an assessment of the building structure. He will
always go to the Building Authority for the original building plans, as the
Assignment Plan is meant for the identification of the property
only.
3.30 Furthermore, the vendor may not know whether his property
incorporates any illegal structures. The surveyor can only determine this from
the building plans but these may take some time to obtain. In the case of
buildings built before the 1950s, the Building Authority does not necessarily
have the plans, and if the Authority suspects that there are defects in such
buildings, they have to send independent consultants to investigate the
structural safety. Some more recently constructed properties, such as village
houses in the New Territories, do not have approved plans.
3.31 In
addition to illegal structures, problems of dampness or water leakage in the
unit may be another justification for requiring survey reports. Water leakage
is a common problem in Hong Kong, even among newly built units. However, a
common inspection report may not always reveal such leakage. In order to detect
water leakage, a detailed survey report is necessary and this could be
costly.
3.32 Another practical difficulty of including a standard clause
in the preliminary agreement requiring a survey report is the question of
deciding which party should bear the costs of the survey report. There will be
much resistance if vendors are required to bear those costs. Likewise, it is
unlikely that many purchasers in Hong Kong would be willing to bear the
additional costs of a survey report, even though such a report would be in their
interests. Some purchasers might waive their right to a survey report for
reasons of cost.
3.33 Furthermore, the requirement of a survey report
would lengthen the time it takes for the sale and purchase of properties. In
Hong Kong, time is nearly always of the essence in property transactions. Such
a requirement would effect substantial change to the present system and would be
likely to be opposed by owners and estate agents.
3.34 We have
considered that, as an alternative to a survey report, a standard clause might
be inserted into the preliminary agreement to the effect that the vendor
warrants that there are no illegal structures. The problem with this option is
that the vendor will not know if there are illegal structures unless he has the
building plans. Some alterations to the building itself could be
legal.
3.35 We are aware of the fact that illegal or unauthorised
structures as well as water leakage are common phenomena in second-hand
properties. Moreover, it is recent judicial opinion that illegal or
unauthorised structures are likely to affect title. These factors weigh in
favour of requiring survey reports. However, we consider that it would not
be feasible on the grounds of cost and practicality to impose a requirement in
Hong Kong that a survey report be made available in every case. Our view
was shared by the majority of those respondents who expressed their opinion on
this issue.
3.36 In the Australian Capital Territory, the standard contract for
sale contains a clause providing that the buyer may on reasonable notice and at
reasonable times inspect the property before completion of the sale and
purchase.[54] The way in which the
clause is worded seems to imply that the purchaser is entitled to inspect the
property more than once before completion.
3.37 In Hong Kong, a
purchaser of a completed unit in the second-hand market is usually allowed to
view the unit at least once before completion of the sale and purchase. This
may not be the case, however, where the property is sold subject to an existing
tenancy. Ideally, there should always be a right of inspection in order to give
better protection for purchasers. Purchasers of units with vacant possession
and those buying units subject to existing tenancies should be treated alike.
However, the problem is that sometimes even the landlord himself does not have
an opportunity to inspect the unit. The landlord's right of inspection depends
on the terms of the tenancy and, even if that right exists, a tenant may choose
to make it difficult for the landlord to exercise. The tenancy invariably
provides for the tenant's peaceful enjoyment of exclusive
possession.
3.38 It could be argued that the right of inspection would
be unnecessary if there were a cooling-off period of three working days. The
purchaser, after signing the preliminary agreement, would be able to take
advantage of the cooling-off period to afford himself time for reflection and to
view the property. However, even if there is a cooling-off period, it does not
necessarily mean that there is always a chance to view the property within the
cooling-off period.
3.39 We have come to the view that there should not be a right of
inspection in respect of second-hand sales due to its impracticality, especially
in the case of property sold subject to an existing tenancy.
3.40 We concluded earlier in this chapter that a standard clause
providing for a three-day cooling-off period should be incorporated into
preliminary agreements for sale and purchase of second-hand completed
residential properties. This could be achieved in one of three ways:
(a) introducing a standard form of preliminary agreement;
(b) awaiting the adoption of a uniform practice by solicitors and estate agents; or
(c) introducing an appropriate implied term to the agreement by statutory provision.
3.41 The
majority of the Sub-committee considered that the cooling-off period should be
made an implied term of the preliminary agreement by legislation, while a
minority preferred a voluntary approach. We agree with the majority of the
Sub-committee, and favour introducing an appropriate implied term to the
preliminary agreement by legislation. It should not be possible to contract out
of this implied term.
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Recommendation 5 We recommend that the standard clause allowing a three-day cooling-off period should be implied by legislation into preliminary agreements for sale and purchase of second-hand completed residential properties. It should not be possible to contract out of this implied clause. |
[46] In Australia, for example, there are standard clauses in the formal contract relating to such matters as the cooling-off period, contracting subject to finance, survey reports, and inspection of the property prior to completion.
[47] For example, legislation in New South Wales requires that an estate agent must have a contract, containing all required attachments, available for inspection by prospective purchasers when a property is offered for sale (Conveyancing Act 1919 (New South Wales, Australia), section 52A.) The result is that the vendor's solicitors will generally prepare the contract before a buyer has been found. Such a practice is unlikely to be acceptable to vendors in Hong Kong for reasons of cost.
[48] The Law Institute of Victoria and the Real Estate Institute of Victoria Ltd, Contract Note (May 1993), see "Important Notice to Purchasers".
[49] The Law Institute of Victoria and the Real Estate Institute of Victoria Ltd, "Contract of Sale of Real Estate", Estate Agents Act 1980 Form 2 (May 1993), see clause 3 of General Conditions.
[50] Northern Territory standard form of contract for a residential sale, clause 23 of "Conditions of Contract".
[51] See clause 26 of standard HOS agreement for sale and purchase.
[52] The Real Estate Institute of Queensland, Contract for Houses and Land (1st Ed, 1996), see Clause 4 of terms of contract.
[53] In Spark Rich (China) Ltd v Valrose Ltd (1999) CACV No 249/98 Godfrey JA said that a prudent vendor should always consider, before attempting to sell his property, whether his title to the property may be affected by some unauthorised building work. If so, the vendor should not enter into any contract for sale of the property unless the contract contains full disclosure of the problem and also the purchaser's agreement not to raise any requisition or take any objection to the title on the basis of the unauthorised work. The learned judge also pointed out that cases in which a purchaser may safely be advised that he can safely disregard unauthorised building work are likely to be rare.
[54] The Law Society of the Australian Capital Territory, Contract for Sale (Crown Lease and Unit Title)(1998), see clause 10.