Real estate tokenization

Real estate tokenization

Nowadays, real estate tokenization has become a novel form of investment. But do we truly understand what real estate tokenization means? What does it entail to tokenize a property? Is it legally feasible?

In today’s article, we will analyze from a purely legal perspective the implications of tokenizing a real estate asset and whether this is legally possible.

To comprehend how the current legislation applies, we must first understand how a real estate asset is tokenized. Real estate tokenization is the process by which a real estate asset, such as a building, a property, or a plot of land, is converted into a digital representation on a blockchain.

This digital representation, known as a “token,” can be divided into smaller fractions, facilitating investment in real estate with lower capital and improved liquidity, granting investors rights over that token and consequently over the property.

In the recent update of the Spanish Securities Market and Investment Services Law (LMVSI), several modifications have been included to adapt existing legislation to new projects of the European Union’s Pilot Regime, which accommodates certain blockchain projects through Regulation (EU) 2022/858 of the European Parliament and of the Council, dated May 30, 2022.

Updates and modifications of the legislation

In this regard, Article 2 has been amended, including in paragraph 2 the possibility that these may be “issued, registered, transferred, or stored using distributed ledger technology or other similar technologies as support for these actions.”

Thus, we could understand that according to the definition of negotiable securities in the same Article 2.1 LMVSI, real estate tokenization would fall within this category. According to Article 2 of the LMVSI, negotiable securities are considered to be those rights with a financial content that, due to their legal configuration and transmission regime, are capable of being widely and impersonally traded in a financial market.

The tokenization of a real estate asset involves the digital representation of that asset, which provides divisibility and transferability features, fulfilling the criterion of “widely and impersonally traded” by allowing different investors to acquire and sell fractions of that property in the market.

In this regard, for a company to be able to provide such a service, as expected, it must offer minimum guarantees to investors and follow the guidelines imposed by the National Securities Market Commission (CNMV).

The LMVSI stipulates the following:

• The system must guarantee the integrity and immutability of the issuances made on them, directly and indirectly identify the holders of rights over the negotiable securities, and determine the nature, characteristics, and number of such securities. Holders will have access to information corresponding to them, as well as to operations carried out with the securities.
• The issuing entity must prepare a document containing the necessary information to identify the entity responsible for the accounting register or the entity in charge of the registration and record, as well as the negotiable securities integrated into the issuance. In this sense, the document must be made available to holders and the interested public and must contain sufficient information about the systems in which the securities are registered, including, among others, the main aspects of their functioning and governance.
• The maintenance of the register must be in charge of the issuing entity or a specific one designated for the case and that can comply with the requirements established by the LMVSI. The appointment of this entity must be made in the issuance document, which, in any case, must be authorized to provide auxiliary investment services, that is, be a Securities Company (Sociedades de Valores), Investment Agencies (Agencias de Valores), Portfolio Management Companies (Sociedades Gestoras de Carteras), Financial Advisory Firms (Empresas de asesoramiento Financiero).

The novelty of the update to the LMVSI is that it grants holders of rights represented on the Blockchain, in accordance with the aforementioned, opposability against third parties from the moment the registration in the distributed ledger technology-based system is carried out.

Additionally, the LMVSI also adds that distributed ledger technology-based systems used, where applicable, for the representation of negotiable securities must have the necessary mechanisms to register any acts and legal transactions that must be registered in accordance with the law, including, among others, seizures, judicial executions, transfers mortis causa, and the establishment of limited real rights and other encumbrances on them.

Similarly, they must have all the necessary functionalities specific to this form of representing negotiable securities.

Advantages of real estate toenization

Some advantages of real estate tokenization include:

• Access to a larger investor base: Tokenization allows more people to participate in real estate investment, even with small monetary contributions.
• Increased liquidity: Tokens are easier to buy and sell, facilitating liquidity in the real estate market.
• Portfolio diversification: Investors can diversify their investment portfolios more easily by including real estate assets.
• Efficiency in management: Tokenization simplifies the management of real estate assets and reduces associated costs.

The approval of laws and regulations regarding this type of investment can make it difficult for new companies to develop related projects. However, it can also provide investors with greater confidence when investing in these products, as they are better protected.

Letslaw by RSM counts on with professionals in the fintech legal advice field, if you have any project related to tokenization and need help to materialize it, please contact us.