Despite the fact that escrows are regularly used in real estate transactions in Mexico, according to Mexican regulations, the concept of escrow has certain identity problems.
The reason is that escrow services are not regulated as such under Mexican law, and are often confused with other similar concepts better known in Mexico, such as a Fideicomiso (trust) or a Depósito Condicionado (conditional deposit).
Due to the similarities between an escrow, a deposit and a Trust, these concepts are frequently confused. However, there are substantial differences between escrow and the oft-confused concepts.
The main difference between an escrow and a trust is that in a Trust, the fiduciary ownership (propiedad fiduciaria) of the assets or funds contributed to the trust are transferred to the Trustee, who is bound to use them for a specific purpose.
In contrast, under an escrow, the Escrow Agent receives the funds “in custody”, i.e. in escrow, although ownership of the funds is never transferred to the Escrow Agent.
A substantial difference between an escrow and a deposit is that in Mexico, a key component of the Deposit Agreement is that the ability to dispose of the goods or funds in deposit remains with the depositor, who delivers the goods in deposit, to the depositary, to be kept in custody. In the case of funds, the depositary makes the respective reimbursement when so requested.
That is, in a deposit the depositor retains the authority to instruct the depositary as to how to use the funds, and the depositary has the legal obligation to keep the deposited goods in custody, responsible for their safekeeping as a “good guardian”.
However, in an escrow, the Escrow Agent has the obligation to use the funds in accordance with the escrow agreement, and dispose of them pursuant to the disbursement instructions received. Even where depositor instructs him otherwise, the Escrow Agent will have to comply with the terms of the Escrow Agreement.
Having identified the main differences between an escrow and similar figures, a handy, brief definition of an escrow is provided below:
Escrow - Agreement through which funds or documents (such as a deed) are held by a neutral third party (in custody) until certain conditions in a transaction are met.
The escrow scheme, when implemented through a well-drafted Escrow Agreement, and using a reputable and experienced Escrow Agent, will provide certainty and predictability on the use and disbursement of funds in a real estate transaction.
Escrow in Mexico is typically used as a tool to handle down payments on real estate deals, and also as a guarantee to keep funds available to the Buyer to cover a contingency involving the property purchased.
When getting involved in a real estate transaction, typically the parties enter into a Letter of Intent or a Preliminary Purchase Agreement making the final closing of the deal contingent on the fulfillment of certain conditions, such as a clear title to be transferred upon closing, outcome of an expert review of the property, compliance with zoning regulations, etc.
This stage of the transaction is where the escrow comes into play, since as a common practice this is when a down payment of the purchase price is expected by the Seller; having such funds in Escrow, to be used pursuant to the Escrow Agreement, will afford certainty to the parties involved in the real estate transaction.
The main benefits of using escrow in a real estate transaction include:
The parties would have a reliable source to keep the funds in a safe place and ensure that they are used as instructed. The Buyer would have the peace of mind that its down payment will not be released unless all agreed conditions are met, and the Seller has the certainty that the escrowed funds will be released at closing.
In case the escrowed funds are to be used to cover a contingency identified prior to closing, the Buyer would still be able to close the transaction despite that certain conditions are not met, and keep part of the purchase price in escrow in order to cover a potential future contingency. If the time agreed upon elapses and the contingency does not materialize, the funds are to be delivered to Seller as payment of the remaining balance of the purchase price.
The parties can also instruct the Escrow Agent with respect to the administration of the funds and how to distribute the interest the escrowed funds generate while the Escrow Agreement is in place.
Unless the sophistication of the deal requires a different legal structure, or a more complex mechanism to dispose the funds in a Real Estate transaction, Escrows are simpler, more flexible and less expensive than other similar alternatives used in Mexico.
In order for an escrow to provide the above benefits, there are three golden rules to be followed:
1. Use a reputable, experienced and reliable Escrow Agent. Some alternatives are any of the Title Insurance companies authorized to do business in Mexico, or the Trust department of a Mexican Bank.
2. Sign a clear and tailor-made Escrow Agreement, which is consistent with the Purchase agreement. Of particular importance are the clauses that refer to the conditions to be met prior to closing.
3. Include clear and concise disbursement instructions. This provision should also contemplate whether individual or joint instructions are required, alternatives to evidence the fulfillment of a condition where joint instructions are lacking, and disbursement instructions in case of a conflict.
In sum, since the escrow grants certainty and confidence to the use of funds in real estate transactions, it is strongly advisable to use it to increase the certainty of the parties to the transaction, and to avoid unpleasant surprises.
Hugo G. Cuesta is a partner at Cuesta Campos y Asociados, S.C., a full service law firm founded in 1988, with offices in Mexico City, Guadalajara and Puerto Vallarta, and in other 175 cities around the world through MERITAS Law Firms Worldwide.
For more information please contact:
Hugo Cuesta: hcuesta@cuestacampos.com
David Gomez: dgomez@cuestacampos.com
