In view of the extended period of loan scarcity both for the construction of new residential units and for the financing to the final purchaser, the Brazilian real estate market developed its own means to raise funds for construction developments. This particular characteristic provides the Brazilian market with its own dynamics, different from other real estate markets in the world.
The lack of credit lines forced developers to adopt the self-financing model, by combining advanced sales and their own financing to the final purchaser. Units are sold upon the launch of a development, before actual construction begins. These units are sold directly by the developer pursuant to an installment sales contract, including installments of up to 120 months. By the conclusion of the construction, the developer receives, on average, between 20% and 40% of the total purchase price amount, depending on the development and profile of the purchaser. Because a portion of the purchase price is received in advance, the developer obtains a portion of the funds necessary for the construction of the respective development, reducing the need for capital contributions or bank loans.
As a result of this model, the rate of sales during the launching period is one of the most important factors responsible for the profitability of the development, as well as the provision of capital necessary to make construction feasible. The leveraging of the unit sales during the launching period is directly related to the recognition of the developer´s brand and credibility. We believe the main determining factors include the construction being delivered on schedule, the quality of the finished construction and the provision of appropriate customer service to the purchaser.
The main activities of the real estate market are the construction and sale of residential units across several income levels. The characteristics of a real estate development, the marketing approach and the construction process differ according to the income profile of its target audience. Developments directed to low and middle-low income levels are more sensitive to price variations, which require the optimization of costs through construction techniques and processes with industrial production characteristics. Developments directed to upper and upper-middle income levels are differentiated by the product concept, the diversification of services offered and the advantages included in a specific project, as well as the location in more prestigious regions of large cities.
People attach high individual value to real estate properties, and in general real estate has a significant effect on the family budget. The acquisition of real estate depends in large part on the availability of long-term financing. Accordingly, the performance of the real estate market is affected by several macroeconomic factors, such as inflation, interest rates, GDP and income per capita growth and consumer confidence.
Interest rates have a significant effect on consumers´ decisions and the investment decisions taken by companies. Because interest rates affect the liquidity of the payment methods, control over interest rates directly affects the demand for durable goods and consumer products and, therefore, the acquisition of real estate.
Inflation and the measures taken by the Brazilian government to curb inflation commonly decrease the population´s income and, consequently, the expansion of economic activities. The increase in inflation rates affects the real estate market to the extent that these rates reduce economic activity, consumption and investment activity. In addition, the relative growth of inflation rates, in particular INCC and IGP-M, which are generally responsible for the indexation of construction costs and receivables related to sales in installments of real estate units, respectively, affects the profitability of real estate development activities.
Demographic and Social and Cultural Factors
The growth of the Brazilian population, the high percentage of young people as compared to the total population, the trend towards an aging population, the decrease in the number of inhabitants per home and the socio-cultural preference to own one´s own home are elements that tend to support an increasing demand for residential real estate in Brazil over the next 10 years.
According to the IBGE, from June 1, 1991 to June 1, 2003, the Brazilian population increased from 149.1 million to 179.0 million inhabitants, representing a compounded annual growth rate of 1.5%.
According to the IBGE, the reduction of mortality rate combined with the natural decline in birth rate results in a trend of gradual aging of the population. This is evidenced by the ratio between the number of people over 60 years of age for every 100 children over five years of age. This indicator stood at 48.3 in 1981, increased to 76.5 in 1993 and reached 114.7 in 2003. In 2002, the number of people over 60 years of age had already surpassed the number of children under the age of five years.
Another positive indicator is the decrease in the number of inhabitants per home. From 1991 to 2000, the number of homes in Brazil increased by 12.4 million, representing a growth rate of 3.6% as compared to a population growth rate of 1.6% during the same period. When considered together, these indicators reflect the decrease in the average number of inhabitants per home. In 1970, the average number of inhabitants per home was 5.28. In 2000, the number dropped to 3.79. This decrease mainly resulted from the decrease in the average number of children per family. The increase in the number of homes with only one inhabitant also contributed to decreasing this average. Over 10 years, the percentage of homes in Brazil with only one inhabitant increased from 7.5% to 10.2% of the total number of homes.
Finally, a significant percentage of owned properties as compared to the total properties in Brazil reflects the social and cultural preference of the Brazilian population for home ownership. Regardless of the high interest rates in the 1990s, the percentage of owned properties compared to total properties increased from 70.8% to 73.7% between 1993 and 2003, while the percentage of rented properties decreased from 15.3% to 15.0%, and assigned properties (including the transfer of properties from one party to another party) dropped from 13.4% to 10.7%.
Regulation of Real Estate Credit
The real estate sector is highly dependent on the availability of credit in the market, and the Brazilian government´s credit policy significantly affects the availability of funds for real estate financing, thus influencing the supply and demand for properties.
The Brazilian real estate industry is subject to strict credit policy regulations and the financing sources for this industry originate from the: (1) Government Severance Indemnity Fund for Employees (Fundo de Garantia por Tempo de Serviço), or FGTS; and (2) savings account deposits.
Financing can be granted by (1) the SFH, regulated by the Brazilian government, or (2) the mortgage portfolio system, pursuant to which financial institutions are free to negotiate the financing conditions.
Housing Finance System (SFH)
Law No. 4,380, of August 21, 1964, as amended, created the SFH to promote the construction and ownership of private homes, specifically for low income earners. Financing resources under the SFH´s control originate from the (i) FGTS and (ii) from savings account deposits.
The main funding sources for the housing financing system are regulated by the SFH.
The FGTS is a mandatory tax obligation of 8.5% of an employee´s payroll subject to the labor regime prescribed by the Brazilian Consolidated Labor Law ( Consolidação das Leis Trabalhistas ), or CLT.
The CEF, a savings institution, is the agency responsible for managing the funds deposited in the FGTS. The following conditions must be met in order to use FGTS funds for real estate financings: (1) financing of units under construction are limited to R$55,000 or 60.0% of the real estate price, whichever is lower; and (2) financing of units already constructed are limited to R$450,000 or 90.0% of the real estate value, whichever is lower.
In each case the taxpayer must: (1) be a resident or work in the metropolitan area where the real estate is located and (2) not own any other real estate in the city where the real estate to be financed is located.
SFH financings offer fixed interest rates lower than market rates, limited to 12% per annum. The SFH financing contract terms can reach 30 years.
In accordance with Resolution 3.347, which determines the allocation of funds deposited in savings accounts relating to the entities of the SBPE at least 65% of deposits in savings accounts must be allocated to real estate financing transactions, as follows: (i) 80%, at least in housing finance operations in the SFH, and (ii) the rest in real estate financing operations contracted at market rates, transactions involving housing finance.
Resolution 3.347 also establishes the following conditions in case of financing by SFH: (1) loans, including principal and related expenses are limited to R$450,000, (2) the maximum selling price of the financed units is R$500,000, (3) the maximum real cost for the borrower, including charges such as interest, taxes and other financial costs, except insurance should not exceed 12% per annum, and (4) any balance due the deadline set will be responsibility of the borrower and the term of the financing can be extended for up to 50% of that originally agreed.
Deposits in saving accounts can be used by the SFH and the relevant financial institution to make loans for the purchase of real estate.
The funds raised through deposits in savings accounts, besides being directed to SFH, are also allocated to the portfolios of the banks themselves.
The transactions referred in the “Resolution 3.347″item (ii) above are made by banks, through their own portfolios they use to grant housing loans. In the system of mortgage portfolio, interest rates and the amounts funded may be higher than those in SFH.
The São Paulo metropolitan region comprises 38 municipalities in addition to the capital city of São Paulo and, according to the census conducted by IBGE and the Secretariat of Planning of the State of São Paulo in 2005, has a total area of 8,051 square kilometers, an urban area of 2,139 square kilometers and a population of approximately 19.0 million inhabitants. The São Paulo metropolitan region is the region with the highest percentage of Brazil ´s GDP and with the highest potential demand for real estate in Brazil.
The table below sets forth information on the new residential developments in the São Paulo metropolitan region and also includes the industry effects resulting from the various levels of economic activity and income, interest rates and changes in financing policies in the public and private sectors:
|Year||New residential Developments (projects)||New residential developments (units)||Average sales prices (in USS/m2)(1)(2)|
(1) The average sales price per square meter is calculated by dividing the total sales price per unit by the total area of the unit, measured in square meters (defined as the total habitable area of the unit, increased by the participation of common areas within the real estate).
Regulations relating to Real Estate Activities
The current regulations of the real estate industry include such matters as development obligations, zoning restrictions and environmental laws. The Brazilian Civil Code governs matters relating to real estate developments, as well as the ownership of real estate. As a general rule, the Brazilian Civil Code requires that the sale of real estate, as well as the assignment, transfer, change or waiver of rights on real estate be carried out by means of a public deed, except for cases related to the Real Estate Financing System ( Sistema Financeiro Imobiliário ), or SFI, the SFH and certain other exceptions provided for by law. Each of these transactions must also be registered with the proper real estate registry office.
Real estate development activities are regulated by the Real Estate Development Law. The developer´s main duties are to: (1) obtain all required construction approvals and authorizations from the proper authorities; (2) register the development with the Real Estate Registry; (3) indicate in the preliminary documents the deadline for the developer to withdraw from the development; (4) indicate in all advertisements and sales contracts the registration number of the building; (5) oversee the construction of the project established by the contract and in accordance with the approvals granted by the authorities; (6) deliver to the final owner the completed units, in accordance with the contractual specifications, and transfer to the final owner the title of the unit by signing the final sale deed; and (7) provide construction blueprints and specifications along with the joint ownership agreement to the proper real estate registry office.
The construction of the development may be contracted and paid for by the developer or by the final owners of the units. Brazilian law provides for two systems of building construction in a development, construction under contract and construction under a system of management. Construction under contract is arranged with either a fixed price, stipulated before the construction begins, or an adjusted price, set to an index determined by the contracting parties. In construction under a system of management, there is an estimated price but no set final price at the beginning of the construction project. Purchasers of units of the building under construction pay the total costs of the project by paying the monthly costs of the developer or contractor.
Assets for Appropriation
Under the Real Estate Development Law, developers may opt to submit a project to appropriation in order to benefit from a special tax system. Under this system, land and objects built on land, financial investments in the land, and any other assets and rights with respect to the land are considered to be apportioned for benefit of the construction of that development and the delivery of the units to the final owners, and are thus separate from the remaining assets of the developer.
Accordingly, appropriated assets have no connection with the other properties or rights and obligations of the developer, including other assets previously appropriated, and such appropriated assets can only be used to guarantee debts and obligations related to the respective development. The appropriated assets are considered bankruptcy remote and will not be affected in the event of the bankruptcy or insolvency of the developer. In the event of a bankruptcy or insolvency of the developer, joint ownership of the construction may be instituted by a resolution of the purchasers of the units or by judicial decision. The joint owners of the construction will decide whether the project will proceed or the assets for appropriation will be liquidated.
Real Estate Finance System (SFI)
The SFI was created by Law No. 9,514 to establish assignment, acquisition and securitization criteria for real estate financing. The system seeks to develop primary (loans) and secondary (trading of securities backed by receivables) markets for the financing of real estate by means of the creation of advantageous compensation conditions and special instruments for the protection of creditors´ rights. The SFI system includes real estate financing transactions carried out by savings banks, commercial banks, investment banks, real estate credit portfolio banks, housing loan associations, savings and loan associations, mortgage companies and other entities approved by the CMN.
Real estate sales, rental, or other property financing in general, can be negotiated with non-financial institutions under the same conditions permitted by authorized entities under the SFI. In these cases, non-financial entities are authorized to charge compound interest rates greater than 12% per year.
The following types of security are applicable to loans granted through the SFI: (1) mortgages; (2) fiduciary assignment credit rights resulting from sales contracts and/or rental of real estate; and (3) conditional sale of property.
Law No. 9,514 also modified securitizations of real estate assets, making the structure less expensive and more attractive. The securitization of credits in the context of the SFI is made through real estate securitization companies, non-financial institutions formed as joint stock companies whose objective is to acquire and securitize real estate credits. Funds raised by the securitizing companies can be made through the issue of debt notes, including Real Estate Receivable Certificates ( Certificados de Recebíveis Imobiliários ), or CRIs. Pursuant to applicable law, CRIs are nominative credit securities issued exclusively by the securitizing companies and backed by real estate credits.