Spacious and pet-friendly village-style house with green garden views may be an ideal residence for many people.  This newsletter outlines the legal risks associated with the sale and purchase of small houses (丁屋) in the New Territories.

Introduction to the Small House Policy

The Small House Policy was introduced in 1972 to allow indigenous villagers (原居民) in the New Territories to build small houses for their own habitation.Under such policy, an indigenous male villager known as a “Ding” (丁) over the age of 18 years is entitled to a grant of Government land at a concessionary land premium on which a small house can be built.For a Ding already owning agricultural land, he could apply for a free building licence from the District Lands Office to build a small house on the agricultural land without payment of land premium for the conversion of the “user” of the land.

Restriction against Alienation (i.e. Restriction against Transfer of Property)

Given that the purpose of the small house policy is to provide residence for indigenous villagers for their own benefits, the Government grant usually provides that unless with the approval of the Government and on the payment of land premium, the interest in the land and the small house built on it cannot be alienated.The Government has a right to recover possession of the land on a breach of such conditions.Notwithstanding this restriction, many indigenous villagers cash in on their eligibility for the small house concessionary grants by selling them to developers before obtaining the Government’s approval and making the land premium payment.The developers then start to build small houses and to arrange for pre-sale of the small houses to “outsiders”.Such practice commonly known as “套丁” is technically a breach of the conditions of grant.

Is an Agreement Entered into Before Land Premium Payment Enforceable?

The long-standing practice of sale and purchase of small houses before payment of land premium was challenged in Sung Wai Kiu and Li Pui Wan v Wong Mei Yin (HCA3979/1994).In this case, the Purchaser of an interest in a small house sued the Vendor for breach of the Provisional Agreement for Sale and Purchase (the “Agreement”) and sought, inter alia, the return of deposit paid pursuant to the Agreement.The Vendor argued that the Agreement was unenforceable on the ground of illegality by reason of the breach of the conditions of grant.Having considered that the transaction did not involve any criminal or illegal act and that the Government would normally raise no objection to the sale and purchase and assignment of interest in small house so long as the grantee paid the land premium, the Court of First Instance did not consider it necessary to deem the assignment of small house title illegal.The Agreement was thus held to be enforceable.

On appeal (Li Pui Wan v Wong Mei Yin (CACV49/1997)), the Court of Appeal found that as the parties had no intention of completing the transaction prior to obtaining approval for assignment from the Government or payment of land premium, the arrangement among them could only be regarded as technically “jumping the gun”.The ruling of the First Instance in respect of the enforceability of the Agreement was therefore upheld.

Risks Associated with Sale and Purchase of Small House Prior to Land Premium Payment

While the decision in Li Pui Wan seems to give the green light to sale and purchase of small houses prior to obtaining approval from the Government and payment of land premium, the risks associated with it should not be ignored.To cite just a few examples, as such agreement signed before the removal of alienation restriction under the conditions in the Government grant cannot be registered with the Land Registry prior to the payment of the land premium and the removal of the alienation restriction, the purchaser may lose priority to subsequently registered interests like a charging order whilst being contractually bound to pay the purchase price pursuant to the agreement. In addition, the indigenous villager or the developer may go bankrupt before the completion of sale and purchase, leaving the purchaser without the financial means to pay the land premium.Moreover, sale and purchase of small houses under construction is particularly risky as many disputes arise in relation to delay in the granting of building licences and the construction of the small houses.In light of these, it would seem relatively less risky to purchase a completed small house with Government’s consent to alienation obtained and land premium duly paid.

Agreement involving Misrepresentation to Government Not Enforceable

On the other hand, the sale and purchase of a small house which requires a building licence to build involves additional risks, which are highlighted in a recent judgment in Tiu Sum Fat v Shun Sing Development Ltd [2009]HKEC2096.This case concerns a typical “套丁” arrangement, under which a developer transferred a piece of land owned by the developer to an indigenous villager while the villagerapplied for a building licence for a small house to be built on that land and to be sold to various purchasers.The developer entered into two agreements with the purchasers, under which the purchasers agreed to purchase the small house.In signing the agreements, the parties contemplated that the indigenous villager had to make a statutory declaration in support of the application for a building licence to the effect that he was the sole owner of the land.In fact, the villager was not the registered owner of the land when he made the statutory declaration, and was merely a nominee owner after the transfer of the land to him.The Court found the agreements necessarily entailed commission of civil wrong, namely misrepresenting to Government that the applicant of requisite building licence was the legal and beneficial owner of land.The Agreements were thus unenforceable on the ground of illegality.

In light of Tiu Sum Fat, it appears that if the agreement between the parties involves misrepresentation to the Government, the Court will be more inclined to find the agreement unenforceable on the ground of illegality.As to whether the subsequent title to a small house will be affected if the root of the title is tainted with illegality, the legal position is even more uncertain as there has not been any decided case on this so far.Potential purchasers should consider carefully whether they can afford all these risks before committing themselves to sign an agreement for the sale and purchase of small houses.