In Malaysia’s dynamic real estate industry, joint ventures have emerged as a pathway to success for Malaysian developers. This collaborative strategy typically involves an alliance between two distinctive yet complementary forces: property developers and landowners. Property developers bring to the table their financial strength, construction expertise, and market acumen, while landowners offer the essential ingredient for a successful development – prime real estate. Together, they endeavour to create residential, commercial, or mixed developments that shape our skylines and redefine urban living.
In recent times, Malaysia has witnessed a notable uptick in these symbiotic partnerships, with both parties aligning their resources and aspirations to undertake ambitious land development projects. Cases in point include the high-profile joint ventures among Sejuta Bina Sdn Bhd and Saga Tunas Sdn Bhd for a transformative mixed-development in Sungai Penchala, Ayana Bayu Sdn Bhd and Koperasi Kampung Melayu Balik Pulau Bhd for an expansive multi-phased project in Penang, and Star Residence Sdn Bhd in tandem with Liberty Triangle Sdn Bhd for a cutting-edge mixed-use development in Kepong.
While the rewards can be significant, the stakes are equally high. Selecting the right partner, delineating the scope of the project, and establishing clear contractual frameworks are critical steps that precede the handshake. In this article, we navigate through the complexities and considerations of forming joint ventures between property developers and landowners in Malaysia, emphasising the legal due diligence necessary for safeguarding interests and ensuring a win-win outcome.
Legal Due Diligence
Embarking on a joint venture in Malaysia’s real estate sector requires meticulous legal due diligence. This process is critical for both developers and landowners, with the objective of unearthing potential risks and liabilities associated with the counterparty or the land in question.
Due diligence is fundamentally an investigation or exercise undertaken prior to signing an agreement, ensuring a comprehensive understanding of the business, asset, or individual one intends to deal with. For joint ventures, particularly between property developers and landowners, this scrutiny extends to numerous aspects of the counterparty’s operations and the land’s legal standing.
Commencing this exercise with a well-structured due diligence checklist is prudent, ensuring a systematic approach and leaving no stone unturned. Typically, a robust checklist encompasses:
- Company Searches: Verification of company details with the Companies Commission of Malaysia.
- Winding-up Searches: Searches with the Malaysian Department of Insolvency to confirm the company’s solvency.
- CTOS Searches: Credit reports providing insights into the company’s financial health.
- Regulatory Compliance: Examination of certified copies of relevant licences, permits, and approvals from governmental or regulatory bodies.
- Legal Health Check: Scrutiny of all legal documents, including ongoing, impending, or past legal suits involving the counterparty.
- Developer’s Reputation: For landowners, a review of the National Housing Department’s list of blacklisted developers is crucial.
- Environmental Compliance: Landowners must also evaluate the developer’s adherence to environmental regulations.
- Track Record Analysis: A review of the developer’s previous projects to assess performance and reliability.
Each of these steps is integral to a thorough due diligence process, helping parties to safeguard their interests and make informed decisions. This is a key part of setting up a successful property development joint venture.
Land Due Diligence
At the heart of every real estate joint venture lies a critical element: the land upon which the venture will unfold. Its attributes, legal standing, and potential encumbrances can make or break the viability of a development project. Thus, conducting rigorous due diligence specifically on the land is not merely advisable; it is a cornerstone of prudent investment.
This process delves deep into the land’s characteristics and legal nuances, ensuring that both parties — particularly the developer — enter the joint venture with eyes wide open. Key aspects scrutinised during land due diligence include:
- Ownership Verification: Confirming the land’s legal and beneficial owners.
- Land Type Analysis: Understanding the tenure — freehold, leasehold, Bumiputera lot, or Malay reserved land.
- Category Classification: Determining the land’s designated use — agricultural, residential, or industrial.
- Encumbrance Check: Identifying any existing encumbrances or private caveats, especially those created by third parties.
- Compliance Review: Ensuring the proposed development project does not violate any conditions or restrictions set by authorities.
- Boundary Assessment: Verifying the land’s measurements and boundaries to assess its suitability for the proposed project.
- Contractual Review: Examining contracts between the landowner and third parties that could impact the project.
- Additional Concerns: Investigating any other potential issues stemming from the land that could affect the project.
Beyond a standard land search, developers may seek the landowner’s consent for a comprehensive land survey and soil investigation. This step is critical to ascertain the land’s physical condition and suitability for development.
While the insights from due diligence cannot promise a project’s success, they are instrumental in assessing its feasibility. Comprehensive due diligence lays the groundwork for a well-informed joint venture agreement, prepared and executed with confidence and clarity by all parties involved. Once due diligence is completed to the parties’ satisfaction, the joint venture agreement will be prepared for the parties’ execution.
The Joint Venture
Upon completion of due diligence and confirmation of the joint venture’s structure, the parties are likely to have come to some consensus on key terms. The joint venture agreement stands as the authoritative document, encompassing all terms and conditions of the collaboration. However, finalising this definitive agreement can require substantially more time. In these instances, parties may opt to set out the principal terms of the joint venture in a preliminary agreement pending the negotiation and finalisation of the comprehensive joint venture agreement.
Preliminary Agreement
A preliminary agreement outlines the essential terms of a joint venture. Ideally, the preliminary agreement specifies a deadline by which the definitive joint venture agreement must be signed, failing which the preliminary agreement will be terminated. Forms of preliminary agreements include a letter of offer, letter of intent, term sheet, heads of terms, memorandum of understanding, or memorandum of agreement. For further insights into preliminary agreements, refer to our prior article: Do I Have A Contract? Preliminary Agreements in Acquisitions. As an alternative, parties may sign a non-disclosure agreement to maintain the confidentiality of the proposed project and overall deal without mentioning any key deal terms.
Joint Venture Agreement
The joint venture agreement specifies each party’s rights and obligations concerning the development project. It includes details like contributions, project specifics, estimated completion timeline, financial considerations, development-related costs, and the limitation of risks and liabilities. In such ventures, a landowner typically receives one or both of the following:
- Cash Consideration: An upfront payment by the developer to the landowner, typically for the formalisation and establishment of the joint venture.
- Allocation of Developed Units: A quota of completed units, usually calculated based on build-up area and projected market value, that is allocated to the landowner upon the completion of the development project.
The agreement must be thorough, covering all terms and conditions, with particular attention to default events and exit plans outlined in the termination clause. A precise termination clause facilitates an amicable dissolution of the joint venture, guiding parties through their post-contract responsibilities. However, certain provisions, like representations, warranties, confidentiality, and indemnity, are intended to apply beyond the agreement’s termination. For further details on joint venture structures, please refer to our earlier article: Joint Ventures in Malaysia.
Tax Considerations
In property development joint ventures, the developer and landowner should also consider the applicable tax-related matters and tax treatments. Under the Inland Revenue Board of Malaysia’s Public Ruling No. 1/2009: Property Development, income derived from property development is subject to taxation. In this regard, the term “property development” widely encapsulates the following activities:
- Acquiring land for various purposes, such as developing, constructing and selling completed residential, commercial or industrial buildings; and
- Developing and selling vacant lots to construct residential, commercial or industrial buildings on the land.
Where a developer and landowner enter into a joint venture to develop the Land, tax can be imposed on the developer and the landowner under the Income Tax Act 1967 or the Real Property Gains Tax Act 1976.
Developer’s Tax
In a joint venture, a developer’s active engagement in development activities generates income that is subject to income tax under the Income Tax Act 1967, which is payable to and enforced by the Inland Revenue Board of Malaysia. Developers must ensure that the calculation of their profits and losses and applicable taxes are accurate to avoid penalties that may be imposed by the Inland Revenue Board of Malaysia.
Landowner’s Tax
In a joint venture involving a landowner and a developer, the tax implications for the landowner hinge on their level of active involvement in the development project’s activities. If the landowner engages actively in these activities alongside the developer, they are considered to be conducting a property development business. Consequently, their portion of the gross revenue from the project becomes taxable as income. This distinction underscores the need for landowners to understand the impact of their participation and the corresponding tax obligations.
In scenarios where a landowner contributes land to a joint venture but refrains from active participation in the developmental activities of the project, they are not required to pay income tax on their share of the gross revenue derived from the joint venture or development project. Paragraph 15.3(a) of the Inland Revenue Board of Malaysia’s Public Ruling No. 1/2009 on Property Development recognises that a landowner entering into a joint venture project is not undertaking a business if they do not take an active part in the development activities. In such an event, the landowner’s tax responsibility will fall under the Real Property Gains Tax Act 1976.
The position was affirmed in the case of Ketua Pengarah Hasil Dalam Negeri v Cash Band (M) Bhd [2022] MLJU 2279, where the High Court upheld the decision of the Special Commissioner of Income Tax (SCIT) that the respondent landowner is not liable to pay income tax its share of the revenue paid by the developer under its joint venture since the landowner did not play an active part in the development of the land. The High Court observed that the directors of the respondent landowner were merely discharging their duties to ascertain the maximum value of the land disposed of and, therefore, did not reflect a change of intention from investment to trading. Further, the High Court noted that the intention of the landowner acquiring the land in question, which was to manage and run a golf club on the land rather than to dispose of the same for profit.
Conclusion
Like all joint ventures, a proposed joint venture between a developer and landowner to carry out the development project must be analysed, considered and negotiated thoroughly. It is prudent for parties to engage their own legal advisors to provide guidance on the prospective joint venture, the agreement, and related aspects. This ensures a comprehensive understanding of the advantages and potential concerns, guaranteeing that all settled terms are accurately reflected in the joint venture agreement.
Our team has extensive experience advising clients on their joint venture arrangements, agreements, and land-related matters. Should you need support with legal due diligence, structuring a joint venture, or drafting an agreement, do not hesitate to contact us. We are here to offer the necessary assistance.
By Marilyn Teh, Tommy Wong and Vinson Cheng
Note: This article does not constitute legal advice to any specific case. The facts and circumstances of each and every case will differ and therefore will require specific legal advice. Feel free to contact us for complimentary legal consultation.
