Spot has analyzed how escrow works, the risks this system poses to parties involved, and interviewed representatives from various industries that may be affected by this innovation.
As Spot previously reported, the President of Uzbekistan held a meeting dedicated to the construction industry and poverty reduction. One of the key topics was the problems faced by equity holders who fall victim to unscrupulous developers. As a solution to these issues, it was decided to introduce an escrow account system for real estate transactions, including for properties under construction.
Developers will now enter into agreements with banks, and buyers' funds will be held in escrow accounts until construction is completed and all developer obligations are fulfilled. This system will be tested in Samarkand and some districts of Tashkent for a year.
Escrow is a special bank account that temporarily holds funds until all conditions of a transaction, as stipulated in the contract, are met. It acts as a "guarantee" for both parties: the buyer is confident that their funds are protected, and the developer will only receive payment after all construction work is completed.
How does it work? Suppose you are buying an apartment in a building under construction. Instead of transferring money directly to the developer, you deposit it into an escrow account at a bank. These funds remain blocked until the developer fulfills all their obligations—for example, completes construction and transfers all property documents to you. Once the conditions are met, the bank will transfer the funds to the developer. If the transaction conditions are not met, the money is returned to the buyer.
Thus, the buyer is assured that their funds will be protected, and the seller is assured that they will receive payment after fulfilling all obligations. The bank acts as an independent intermediary, overseeing compliance with the terms.
In practice, this means that developers can no longer finance construction directly from equity holders' funds (as was the case with equity participation agreements). They will now have to seek project financing from banks.
Escrow also involves a certain commission for the bank's services. The standard cost of opening an escrow account varies between 0.7% and 1% of the amount specified in the contract. The commission can be paid by the developer or the buyer.
In international practice, escrow can be used not only for money but also for the transfer of securities or other assets. Additionally, the intermediary can be not only a bank but also, for example, a notary.
Currently, Uzbekistan's legislation does not contain any provisions or regulations regarding the use of escrow accounts and project financing in the construction sector.
Spot decided to delve into what escrow is and how it works, and also discussed this initiative with representatives of the construction industry and businesses in Uzbekistan to identify potential risks and prospects.
Head of the Analytical Group at Commonwealth Partnership Uzbekistan.
Developers will now have to cooperate with banks that will provide project financing. This presents several challenges.
Firstly, the cost of such financing depends on the development level of the banking sector.
This will create an additional financial burden on developers, especially considering the high interest rates on loans (22% and above).
Secondly, there is currently no clear understanding of how banks and developers will interact. Typically, a special project company is created for such projects, but Uzbekistan has no experience working with such structures (SPVs) yet.
Thirdly, to the best of my knowledge, we currently lack a legislative framework for the rules of project financing issuance and the creation of project companies.
The cost of project financing will also depend on how much money is in the escrow accounts. The more money in these accounts, the lower the interest rate.
The introduction of escrow accounts will likely lead to an increase in the cost per square meter of housing. Additional expenses for interest, fees, and insurance will also play a role.
Despite these challenges, the key goal of escrow accounts is to protect the interests of equity holders. This will help reduce the risks of fraud and unfinished projects. Banks will also gain more control over projects, which will compel developers to be more attentive to their obligations and optimize expenses.
If successfully implemented in the pilot territories, escrow accounts will mean that practically all housing construction projects will be carried out with the involvement of bank project financing.
Partner and Co-founder of Gafurov, Kardash & Partners.
The introduction of escrow accounts can bring several advantages to banks, including increased liquidity, higher revenue from escrow account management, and opportunities for cross-selling.
On the other hand, they will face additional regulatory, financial, administrative, and legal burdens.
In the short and medium term, the introduction of escrow accounts may lead to liquidity problems for developers, and in some cases, to questions about their continued existence.
We can also expect a certain decrease in developer profitability, a reduction in the overall volume of housing construction, and delays in project completion.
In the long term, only the most reliable and creditworthy developers should remain in the market.
The introduction of escrow accounts can create new opportunities for institutional and private investors, including foreign ones, by reducing investment risks, facilitating equity investments, and increasing market transparency, which should ultimately lead to attracting more capital to the real estate sector.
Buyers should receive additional protection against unscrupulous developers and unfinished projects.
However, they will lose immediate access to their funds in the escrow account, which limits their flexibility in case of changes or withdrawal from a contract with the developer.
Overall, the introduction of escrow accounts should contribute to the creation of a more stable and reliable real estate market in the long term.
Marina Zabolotneva,
Deputy General Director for Financial and Administrative Affairs at Golden House.
The introduction of an escrow account system is inevitable, but it is the country's banking system, not primarily the developers, that must be prepared for it. Banks must adapt to the new conditions, as they will play a key role in this process.
Developers will face an additional financial burden, as escrow accounts involve project financing, i.e., attracting credit funds at interest. It is important to implement a mechanism where interest rates decrease as funds are deposited into escrow accounts. For example, in Russia, if 150% of the credit financing is covered by received funds, the rate drops to zero.
A similar system needs to be adopted in Uzbekistan, as the current loan interest rates in soums—24-26%—are too high for most developers. If interest rates remain high, it will inevitably lead to an increase in the cost per square meter. Overall, some increase in housing prices can be expected.
Furthermore, escrow accounts may lead to the exit of small developers who are not ready for the new requirements, and to market consolidation.
Buyers will benefit from the escrow system as it will increase market confidence and protect their interests. Additionally, it could "explosively attract foreign investors" interested in greater transparency.
It is promising to lower the entry threshold for the market from the current $150,000 for construction and $180,000 for completed properties.
It is advisable to implement the escrow system for new projects, while ongoing projects should be completed under the old schemes.
The main task is to prepare banks for lending to developers and determine their capabilities. To do this, it is necessary to analyze the financial models of developers for the next five years and understand how much credit they will need.
Head of the Legal Department at TBC Uzbekistan.
Escrow is a well-established tool that is widely used worldwide.
Based on my experience, the absence of an escrow system has often reduced the interest of foreign investors.
There have been cases where potential investors considered investing in local projects, and in most cases, the investor's refusal could be attributed to the absence of a universally recognized financial instrument such as escrow accounts.
I am confident that the introduction of escrow accounts in Uzbekistan will positively impact the security, transparency, and enforceability of transactions, creating additional protection for all market participants. For banks, this will also become a new useful product that can contribute to market development from both a business and consumer perspective.
However, it should be noted that companies may not be ready for the implementation of an escrow account system, as it may require them to restructure processes and increase expenses.
Commercial Director at STC RABAD.
I believe that the introduction of escrow accounts in the construction sector is a progressive step towards increasing the security of real estate transactions. This mechanism has long been used in many international markets and has
