The necessity of Legal Due Diligence in India

The necessity of Legal Due Diligence in India

Legal Due Diligence means taking all precautions to safeguard ones’ interest in a particular transaction. The transaction can be the sale of a property, buying a property, signing a contract etc. Its purpose is:

  • To identify the risks involved
  • To minimize those risks

The essence is to know the fact which one ought to know. It is presumed that a certain degree of prudence will be exercised for one’s own sake.

Read More: Selling a Property through a General Power of Attorney – Is it even valid?

How to carry out due diligence

It involves the collection of information and data that can influence the decision, like

  • Verify the credentials of the person or company involved in the transaction.
  • Handle the documentation part carefully. It is crucial to obtain legal advice (professionals/law firms) for proper documentation of complex transactions, especially property-related matters. It is necessary to read and understand the contents of the document.
  • Property transactions generally involve scrutiny of revenue records and search of title.
  • While dealing with a company, records maintained at the office of Registrar of Companies must be cross-checked. The financial health of the company also matters.
  • It is significant to know the reputation of the person or company as it exists. In the housing business, the image of the builder always has a substantial impact on the mind of the investors/buyers. It helps to ascertain whether the builder is making fake promises or is a genuine person.

Read More: Transfer of ancestral property and registration of transfer deed

Due Diligence has become significant nowadays:

Some of the reasons could be-

  • Adherence to Law is imperative. So far as the legal provisions or statutory requirements are concerned, the parties to the transaction must conform to the rules and regulations. It is the duty of the parties to take care that the statutory requirements have been complied with. For instance, a buyer must ensure that the builder has obtained the necessary approvals for constructing the residential flats.
  • There is an increase in the number of frauds in almost any business. In property matters, scams by impersonation and frauds by forging documents/title deeds, are prevalent. In such a scenario, some precaution will help to avoid the loss. Thus a particular standard of care is legitimately expected. For instance, in the case of buying a property, the buyer must ensure that the title is clear and the property is free from encumbrances.
  • Documentation is also another major area where the party needs to be attentive. There is an upsurge in forgery and frauds by impersonation. It becomes more important to carefully analyze the documents and ensure the authenticity of the same.
  • When a considerable amount is invested, the risk is higher, and one cannot afford to be negligent.
  • Some statutes require the exercise of due care. e.g. Transfer of Property Act. A duty is cast upon the buyer to make an effort to verify the essential facts about the property.
  • There are areas where it is mandatory to be vigilant. The consumer law and the law of contracts is based on the theory of “Caveat Emptor”. The buyer is expected to know the difference between latent and patent defects.  
  • Even the Courts in India, recognize the concept of due diligence for deciding the quantum of compensation. In cases where a party seeks compensation for the loss suffered in a transaction, the Courts are interested to know if the party has exercised due diligence and has tried to minimize its loss.

Read More: Sale deed: What you should know!

The extent of Due Diligence:

The amount of investigation required for collecting the relevant information and precautions to be taken for a transaction varies from case to case.

Importance of Due Diligence and Title Search before Property Purchase

Importance of Due Diligence and Title Search before Property Purchase

Due diligence and title search play an important role in real estate/property transactions.  People approach us and often have the following queries.

What is due diligence and Title Search before property purchase?

It means taking all precautions and ensuring that investment in a property is safe and secure.

By exercising due diligence:

  • The buyer identifies and evaluates all types of risks involved in investment
  • The buyer tries to rule out/minimize these risks

How do we go about it?

Due diligence implies:

  1. Scrutiny of title:

Title Search relates explicitly to the search of ownership and the rights of the owner to sell the property. Two kinds of title search reports are there.

  • Full Search – The title of the property is searched for a period of previous 30 years.
  • Limited Search – The title of the property is searched for a period of previous few years (less than 15 )

The search report is prepared depending upon the nature of the transaction. The title search is a very crucial part of due diligence as the defective title leads to no transfer at all.

Also Read: What is a Sale Deed? Legal Importance and Registration Process

B. Search for the right of the owner to sell the property:

The owner must be capable of transferring ownership. The buyer has to ensure that there is no restriction to the power of alienation of the owner. The limitation can be there:

  • If the owner is a minor or a person of unsound mind. Such a person can sell through guardian or a person so authorized.  
  • The owner is not having an absolute right in the property.
  • The owner is a lessee or a tenant.
  • Statue does not permit sale of the property.

Which records are searched?

  1. The records maintained
  2. at Sub Registrar’s office
  3. with Tehsildar (mutation and Jamabandi)
  4. records maintained by Registrar of Companies
  • Title deeds – Gift deed, Will, Lease Deed, Sale Deed etc

 What is the significance?

There are many reasons to exercise due diligence before purchasing a property:

Also Read: How to cancel Illegal Registration of ancestral property

  • Increase in the number of frauds – There has been an increase in frauds related to real estate. Due diligence involves verification of documents, title and ownership rights to ascertain the authenticity of the same and therefore, helps to prevent fraud.
  • Cost of investment – People invest hard-earned money or a huge amount of loan in real estate. Due diligence is required to safeguard the funds being invested. As stated above, risks are identified, evaluated and minimized by due diligence.
  • Disputed property – Before buying a property, buyer has to ensure that the property is not involved in any litigation. If there is any court case pending concerning the property or the rights of the owner, it can pose hardships later for the buyer. The buyer is bound by the decision of the court, which may or may not be favourable. 
  • Encumbrances which affect the value of the property– The property intended to be purchased must be free from all types of encumbrances like
    • Mortgage
    • Lien
    • Charges due (utility bills, tax payment or any other statutory payment)
    • Litigation

A certificate in this regard is issued by the Office of the Sub Registrar. The buyer must inspect the original title deed as it is deposited with the Bank if there is any loan against the property.

Also Read: What To Do If Your Property Possession Has Been Delayed?

  • Easement Rights/ Acquisition process affect the interest of the purchaser: The property might be having
    • an easement right (right to have a passage through the land)
    • covered under acquisition scheme of the Government.

The buyer must check for the same. It affects the returns from investment.

  • Necessary Approvals – A buyer must ensure that the owner has obtained necessary approvals from the authorities. Approval is granted if the statutory requirements have been fulfilled. 

LEGAL ASSISTANCE

It is advisable to get legal assistance for the search of records and verification of documents.