Why Many Landowners Enter into Agreements Without Knowing What They Are Getting Into

1. A combination transaction is an exchange transaction – the landowner transfers part or all of the land to a developer, and in return receives finished apartments rather than cash. For those expecting quick cash – this is not the right transaction.
2. Between signing the agreement and receiving the apartments, five years or more often pass. The real estate market changes, construction costs change – those who did not include adjustment mechanisms in the agreement may discover that the transaction they signed no longer reflects reality.
3. The betterment levy applies to the landowner – not the developer – and in a transaction involving a change of zoning or an increase in building rights, it can skyrocket in ways unforeseen at the time of signing.
4. If the developer encounters financial difficulties before completing construction, the landowner is the address. He is the one who registered the land, he is the one who may have signed agreements with purchasers. Adequate guarantees are not an option – they are a necessity.
5. A developer offering consideration that sounds “too good to be true” – good reason for concern. A developer who does not profit sufficiently from the transaction will typically not complete it.

What Is a Combination Transaction and Why Is It So Common

A combination transaction is an agreement in which a landowner and a developer collaborate – the former brings the land, the latter brings the financing, expertise, and execution capability. At the end of the process: the developer has apartments to sell to external purchasers, and the landowner has finished apartments that the developer built for him.

There are two main models. In a partial sale, the landowner sells the developer part of the plot (for example, 60%) and receives construction services on the portion that remains in his ownership (40%). In a full sale, all the land is transferred to the developer, and in return the landowner receives an agreed percentage of the apartments to be built on it.

The reason for its popularity: a landowner without equity capital for construction realizes his rights without spending a shekel. The developer gains access to land without paying its full price upfront. And from a tax perspective – certain combination transactions have advantages over cash sales, primarily due to the deferral of tax to the stage of actual sale of the apartments.

The Barkai ruling – CA 487/77 Betterment Tax Administrator v. Barkai Brothers Construction Ltd. – is the foundational precedent that established the legal framework for taxation of combination transactions in Israel, and it remains the basis for all tax discussion in this area.

What Must Be Included in the Agreement

A combination transaction not accompanied by a detailed and professional agreement is a risky transaction for the landowner. Here are the clauses that cannot be waived:

Sale Law Guarantee or Autonomous Guarantee – A guarantee ensuring that if the developer fails to fulfill his obligations, the landowner will receive compensation equivalent to the value of the apartments promised to him. If four apartments were agreed upon, the guarantee must cover the full value of four built and complete apartments.

Bank Supervision Only – A professional combination agreement will require that the project be managed under proper bank supervision. Bank supervision provides a layer of protection for all parties and limits the developer’s ability to divert funds.

Two cases represented by our firm illustrate how far from formalities these requirements are. In the arbitration Ben Azaria Ltd. et al. v. Ashbad Properties Ltd. et al., the “Clock House” project in Jaffa, the arbitrator ruled that a landowner who undertook to provide bank supervision and failed to do so cannot demand that the contractor meet the timelines. The party that caused the delay is the one who will pay for it. In the arbitration Riad Espanioli Ltd. et al. v. Ben Azaria Ltd. et al., in the same project, the arbitrator ruled that the developer’s obligation to provide a bank guarantee to the contractor is an independent obligation not conditional on the contractor’s prior performance. The arbitration award was upheld both in the District Court and in the Supreme Court (CA 9077/12). The message for combination transactions: bank supervision and bank guarantees are not declarations of intent – they are independent obligations whose breach establishes a cause of action.

Adjustment Mechanism for Market Changes – An agreement signed under today’s market conditions and implemented in five years must include a mechanism ensuring that the landowner benefits from the increase in value. Without such a mechanism, all profit from market appreciation may remain in the developer’s hands.

Clear Timeline with Sanctions – Every delay costs money. A landowner waiting for his residential apartments and seeing the project drag on must have an enforcement tool at his disposal. Daily penalties for delays are a reasonable tool commonly included.

Regulation of the Betterment Levy – Who bears the increase in the betterment levy resulting from a zoning change initiated by the contractor-developer? If not expressly agreed upon, the landowner will find himself paying for the betterment created by the contractor for his own purposes.

An Anecdote Illustrating the Risk

In the well-known judgment in Dekla v. Hovni, which came before the courts and sparked extensive discussion among professionals, a developer executing a combination transaction became insolvent during construction. Apartment purchasers who had bought “off-plan” from the developer organized and decided to complete the construction themselves. For years, the landowners sat on the sidelines, expecting the purchasers to also build the apartments promised to them. When the project was completed, the landowners discovered that the purchasers were not obligated to do so. The court ruled that once the landowners agreed to register cautions on behalf of the purchasers, they waived their ability to compel the purchasers to build their portion. The landowners ended up without the apartments they had expected.

The direct lesson: once rights registrations become complicated, once there are purchasers of purchasers, the landowner must secure his rights separately and not rely on the network closing in his favor.

Why the “Too Good to Be True Offer” Is a Warning Sign

One of the counter-intuitive recommendations in this field: if a developer offers a landowner consideration that sounds too high – this is not good news. It is a warning sign. A developer who does not profit sufficiently from the transaction will not complete it. He may be underestimating construction costs, he may be planning to finance the project from advance sales rather than equity capital. In any case – a transaction in which the developer’s profit is too low poses too high a risk for the landowner.

The Right Time for Legal Counsel

The recurring mistake: landowners who come to an attorney after they have already agreed with the developer on the main terms. During the courtship phase, the developer is flexible. After the “main terms” are closed, every change is perceived as backtracking. Legal counsel must begin before any agreement, before any handshake – at the stage when all terms of the transaction can still be shaped from the ground up.

Holding land and receiving approaches from developers? Before agreeing to anything, it is worth understanding what the land is worth, what the offer is worth, and what should be demanded.

© Tidhar Tzur Law Firm | This article is for general information only and does not constitute individual legal advice.