On September 17, 2019, the Committee on Foreign Investment in the United States (CFIUS or the Committee) issued proposed regulations implementing the remaining aspects of the Foreign Investment Risk Review and Modernization Act of 2018 (FIRRMA), including a new set of regulations addressing FIRRMA’s expansion of CFIUS jurisdiction into certain previously uncovered real estate transactions. Parties to covered transactions should consider voluntary review to receive “safe harbor” of CFIUS clearance.
While the proposed rule addresses CFIUS’s expanded jurisdiction over real estate investments in general, these transactions nonetheless remain part of a voluntary review process and the proposed rule establishes a range of exemptions from the Committee’s jurisdiction. It is important to note as well that real estate transactions are not just potentially subject to CFIUS’s real estate rules, but also to CFIUS’s other regulations governing control transactions and non-controlling investments involving US businesses, and must always be analyzed under both sets of rules (although if both apply, fortunately only one filing is required).
A primary question for foreign investors in US real estate, as well as US real estate market participants, is just how engaged and assertive the Committee will be in its review of real estate transactions given its now broader anticipated scope.
Parties to real estate transactions subject to the new regulations should seek counsel to determine whether it is advisable to file with CFIUS as a condition of closing, given that failing to do so could mean CFIUS review even after a transaction is completed if CFIUS believes the transaction could present national security risk.
The Committee has always retained jurisdiction to review various real estate transactions. This jurisdiction has varied, however, depending upon less than clear circumstances. In the proposed rule, FIRRMA clarifies that CFIUS retains jurisdiction over cross-border investments involving real estate deals and also provides additional factors to consider when deciding whether a specific deal is subject to CFIUS’s review.
The new regulations could greatly expand the reach of real estate transactions within the scope of CFIUS’s jurisdiction, depending upon the manner in which the Committee decides to interpret various definitions and exclusions. Currently, CFIUS jurisdiction requires foreign control of a US business. As proposed, the Committee’s review may reach any transaction in which a “foreign person” purchases or leases certain real estate in the United States, whether by a separate real estate transaction or as part of an acquisition of a US business, if that transaction affords such foreign person three or more of the following four property rights:
If a foreign person is not afforded at least three of the above, the transaction is not generally a “covered real estate transaction” under the Committee’s new rule.
Focus on Transactions In and Around Airports, Maritime Ports, and Military Installations
In the proposed regulations, CFIUS identified various geographic limits to its jurisdiction over real estate transactions. The transactions covered by the proposed rule include those near certain airports, maritime ports, military installations, and other facilities and properties of the US government, as well as those within defined geographic areas in and around those sites. The relevant military installations are listed by name and location in an appendix to the proposed regulations, and the relevant airports and maritime ports are included on lists published by the US Department of Transportation. More specifically, there is a focus on real estate that
Exceptions from Coverage: Urbanized Areas and Urban Clusters; Single “Housing Units”; Commercial Office Space
The new regulations create exceptions from coverage for real estate transactions in “urbanized areas” or “urban clusters,” as defined by the Census Bureau, except for those urbanized areas relating to relevant maritime ports and those in “close proximity” to certain military installations. The ability to designate areas that are not exempt because they are located within urbanized areas or urban clusters rests with the US Department of Defense. The purchase, lease, or concession of a single “housing unit,” as defined by the Census Bureau, is also excluded, as well as transactions involving certain commercial office space in multiunit commercial office buildings.
Further Carve-Outs: “Excepted Real Estate Investors” and “Excepted Real Estate Foreign States”
The proposed rule also carves out from coverage real estate transactions by a foreign person defined as an “excepted real estate investor” based on: (1) ties to certain countries known as “excepted real estate foreign states,” and (2) their compliance with certain laws, orders, and regulations. The test is a two-part conjunctive test that requires both the investor to qualify as an excepted real estate investor and the investor to be from an excepted real estate foreign state. Proposed Section 80-2.216 sets out a fairly detailed set of criteria that the investor must meet to take advantage of this exception (should CFIUS even identify excepted real estate foreign states).
These exceptions, though, may not take effect for at least two years following publication of the final rule. The references in the rule’s Supplementary Information and the actual language of the definition of “excepted real estate investors” is somewhat confusing. These exceptions, when effective and if defined narrowly, may not do much to limit CFIUS’s reach to real estate transactions.
Lending Transactions: Defaults Only
The proposed regulations continue existing CFIUS exclusions under the voluntary notice provisions of Part 800 that exclude from coverage the extension of a mortgage, loan, or “similar financing arrangement” by itself by a foreign person for the purchase, lease, or concession of covered real estate that does not constitute a “covered real estate transaction.” Rather, CFIUS will accept notices or declarations concerning mortgages or loans only where there is a significant possibility that the foreign person may purchase or lease, or be granted a concession to, the real estate as a result of a default.
Future Regulations to Narrow Scope of “Foreign Person” and “Close Proximity”
CFIUS’s reach over real estate transactions could be yet further limited based on the US Treasury Department’s statements that FIRRMA requires the regulations to refine the definition of foreign persons for purposes of CFIUS review. FIRRMA appears to encourage CFIUS to identify factors that relate to foreign persons and to take into account factors which may recognize the US relationship with close partners and allies when deciding whether and how to review a cross-border investment.
Recent CFIUS decisions may shed some light on what parties may expect as the proposed rules move forward towards issuance as final rules:
Given the opacity of the CFIUS process – in part based on parties’ requests for confidentiality regarding transactions and deal terms – analyzing CFIUS considerations in a thoughtful and detailed manner early in a transaction is likely to limit surprises and unpleasant exchanges with the Committee.
While the proposed rules are designed to enhance investors’ understanding of the CFIUS process and the requirements for deal clearance, many aspects of CFIUS review remain unchanged. Filings are primarily voluntary, unless the transaction is caught by other non-real estate related CFIUS regulations, and parties are still subject to the same national security reviews for controlling investments. Some additional updates distinguish certain investments based on whether an investor has a controlling or a non-controlling interest in real estate or other property, but the factors concerning foreign investor access to the property and to other sensitive locations on the property are unchanged.
Given that the real estate transactions covered by the proposed rule are generally not subject to a mandatory declaration requirement, parties are left to assess risk and to weigh the costs and benefits of filing a full voluntary notice or submitting a short-form declaration to CFIUS.
The question of whether a party is interested in receiving “safe harbor” from the Committee plays a role in the determination of what to file and whether to file when a filing is not required. A failure to file a notice enhances the risk that CFIUS can (and perhaps will) initiate a review of a closed transaction. Given the US president’s authority to unwind a transaction even after closing, parties face a high degree of uncertainty if they fail to analyze, with specificity, the requirements to file or the need to file. Without a file and a clearance from the Committee that creates a “safe harbor,” parties run the risk that CFIUS may not only review a closed transaction, but can take steps at a later date (or at a time inconvenient to the transaction) to affect the manner in which the transaction and the business are structured.
Seeking “Safe Harbor”
The benefit of the short-form declaration is that CFIUS is required to respond within 30 days; if a deal is cleared, CFIUS is then precluded from any re-examination of the transaction. But the short-form declaration excludes various details that the Committee may find useful in its assessment so the risk exists that CFIUS will require a voluntary notice even after the parties have filed a short-form declaration. In these circumstances, parties will have lost the time to complete the short-form process and will still need to complete the longer voluntary notice process. There may be circumstances, therefore, where the parties would benefit from foregoing the short-form process and simply submitting a full notice.
Public Comment Available until October 17, 2019
Those potentially affected by the CFIUS expansion have an opportunity to provide written comment until October 17, 2019. The final rule is expected to be implemented by February 13, 2020. The regulations indicate that parties who have executed a binding written agreement prior to that later date, or otherwise entered into a binding document establishing the material terms of a transaction, will not be subject to the new CFIUS rules.
If you have any questions or would like more information on the issues discussed in this LawFlash, please contact any of the following Morgan Lewis lawyers:
Select Real Estate Contacts:
Richard A. Toelke
Select CFIUS Contacts:
Giovanna M. Cinelli
Kenneth J. Nunnenkamp
Ulises S. Pin
Carl A. Valenstein