Closer look at custodian accounts in establishing investor confidence in Bahrain

Bahrain has gone through a series of economic challenges in the past five years. A primary source of these is the downturn in the real estate market. In an effort to combat the negative effects of the downturn on investors, three significant laws have been issued since 2014 regulating the dealings of all parties involved in the real estate market. Law No. 28 of 2014 on real estate developments was issued to clearly define the framework of the industry, including new licensing regimes and an authority to oversee the parties involved. Its implementing regulations promulgated by Law No. 25 of 2015 outline licensing requirements and the powers of the authority (the Property Development Laws). In order to bridge any gaps that remain pursuant to the enactment of the Property Development Laws, Order No. 20 of 2016 was issued in June 2016, regulating the practice of custodian activity of the real estate development project’s account (the New Law).

INCREASED CONTROL & SUPERVISION: The New Law stipulates that a singular project account ( custodian account) is to be established in the name of each independent project by way of a written agreement between the developer and the bank, which shall consist of all deposits and withdrawals made by developers, investors, creditors and stakeholders. The bank (custodian agent) responsible for establishing such an account must be duly licensed by the Central Bank of Bahrain (CBB) and the account must be managed by the custodian agent’s offices in Bahrain. This ensures ease in monitoring the account as well as project expenses, and holds the custodian agent responsible should there be any discrepancies in the custodian account if it has acted outside of its capacity as custodian agent.

Greater control is afforded to the CBB as the law requires that it is made privy to the written agreement between the developer and the custodian agent. Additionally, where the developer and custodian agent of the custodian account agree to change the custodian, the custodian agent must notify the CBB of the same.

ACCOUNTABILITY: The New Law ensures that the custodian agent, which has acted within its capacity as trustee of the account, does not ultimately bear responsibility for the administration of the custodian account, and the withdrawal and deposit of money.

While the custodian agent is prohibited from assigning its duties and obligations to a third party, it does not have the final say on the withdrawal of money from the account. The New Law specifies that the project’s consulting engineer shall give final approval for the withdrawal of money from the account and the payment of such to the relevant parties.

SAFETY IN NUMBERS: The New Law requires the following amounts to be deposited into the custodian account to ensure that there is always a sufficient reserve to pay off any obligations: 1. The sum equivalent to 20% of the estimated value of the project, including the price of land estimated by the consulting engineer. When calculating this percentage, each of the project execution phases shall be considered an independent project. It is unclear whether the custodian agent will be involved in the valuation exercise. However, it is probable that an external party with the relevant expertise shall undertake the valuation to guarantee the accuracy of the estimated value figure. 2. The sum of any finance obtained by the main contractor from banks or financial institutions in the event the real estate development project is mortgaged. 3. All amounts paid by the developer and depositors. 4. 5% of the construction value of the project after the developer obtains the completion certificate.

The custodian agent shall not pay this percentage to the developer except after the lapse of one year from the issuance of the certificate.