Overcoming the legal and regulatory challenges of PropTech

The real estate industry is experiencing a widespread digital transformation and is seeing the tangible benefits of adopting technology. New innovations are appearing all the time and there is no doubt that PropTech is at the heart of this digital revolution. It is changing how real estate is developed, managed and traded. However, trying to define exactly what PropTech is can be difficult. The Saïd Business School PropTech 2020 Report: The future of Real Estate ("the Report")¹ explains PropTech by breaking it down into three separate strands as highlighted below. The Report includes a very detailed analysis of each of these strands.

• Smart Buildings: includes technology which facilitates the operation and management of buildings.
• Real Estate Fintech: includes technology which facilitates the trading of real estate assets.
• Shared Economy: includes technology which facilitates the use of space by matching users of space to sellers of space through apps, websites and digital platforms.

The Report also highlights two additional PropTech influences:

• ConTech: technology solutions for designing, planning and constructing buildings including BIM and digital twins, 3D printing, modular construction and robotics.
• LegalTech: technology for streamlining real estate transactions and potentially changing the way real estate is traded.

The technologies that are driving the PropTech revolution are advancing all the time but it is worth mentioning a few of the key applications which underpin the PropTech strands referred to above.

Having an overview of the technologies in play helps give a better understanding of how PropTech can support the transformation of the real estate sector and also prompts consideration of the legal and regulatory challenges that we face as adoption of PropTech becomes more widespread.

Internet of Things

Very simply, the internet of things (IOT) means any device connected to the internet and is the technology that makes a building "smart". Sensors located in a building collect vast quantities of data which is subject to advanced analytics using AI and machine learning. Having a fully integrated building management system means that the environmental performance of the building can be optimised because it is possible to adjust operating systems automatically based on actual or predicted use. This has huge potential for heavy energy users such as data centres.

AI and Machine Learning

Essentially, AI is a system that can do tasks that humans need intelligence to do. It makes it possible for machines to learn from experience, adjust to new inputs and perform humanlike tasks with some degree of autonomy. With advancements in computer technology, the ability to process substantial volumes of data (or ‘big data’) and an increased understanding as to how to exploit both technology and data, AI is being used increasingly frequently to dramatically change the way in which businesses operate.²

AI consists of multiple technologies such as machine learning, deep learning, natural language processing and computer vision. Key AI benefits are:

• automating processes;
• market insight through digital analysis of big data; and
• enhancing customer engagement by improving personalisation.

It is therefore easy to see why AI is a powerful technology for the real estate sector. As already mentioned, it is used to analyse data collected from sensors in smart buildings but it has so many other uses. From online brokerage platforms, to automated asset valuation methods, there is enormous scope to improve the transparency of information and speed up transaction times. This is already highly developed in the residential sector and can be demonstrated by the emergence of the new concept of iBuyers - who will not only list a residential property for sale on their platform but will offer to buy the property with a view to refurbishing and reselling.

There is huge potential for technology uses in the real estate investment market as well as the owner-occupier market. AI is enabling asset managers to gain a better insight into the performance of a real estate portfolio, to identify investment opportunities and improve the tenant experience. Landlords can keep track of data on tenants' accounts, key leasing information and can automate repetitive administrative tasks. Tenants can be provided with apps to give them real time data about their building, report maintenance issues and communicate directly with their landlord.

AI is also making waves in LegalTech. It is revolutionising the due diligence process, making it faster and more accurate. Digital platforms are able to analyse title and other relevant property data and drop it into a digital title report. Machine learning is also streamlining document review and is fast becoming an essential tool for cutting transaction times.

We couldn't leave the subject of AI without mentioning the increasing focus on automation and predictive analytics in the logistics sector. The rapid increase in e-commerce has resulted in a significant rise in the use of automation technologies within supply chain processes.

Blockchain and Distributed Ledger Technology

The real power of blockchain technology lies in the automated execution of a transaction using the technology and potential to create fractional ownership in real estate assets using tokens which can be traded on a blockchain-based exchange, thus opening up investment opportunities in the real estate market.

The phrase "blockchain technology" is often used synonymously with "distributed ledger technology" (DLT). In fact, the two are not the same and, in most cases, when referring to "blockchain" most people are likely referring to distributed ledger technology. The simplest way of describing blockchain is as a technology that enables the secure and permanent storage of a digital ledger of transactions, contracts, agreements and other information, collectively by a network of users.

Traditionally, the documentation needed for the purchase of a real estate asset, such as finance agreements, searches, title deeds surveys, property valuations, etc., are in the possession of different stakeholders and sharing information can be a time-consuming exercise. With blockchain technology, all the information can be assembled into one distributed ledger. Each stakeholder has instant access to all the information, and can track the "live" progress of the transaction. Each participant would be able to provide a digital confirmation that their element of the transaction was complete so that the transaction could proceed seamlessly to the next phase until it is completed.

Smart contracts can automatically monitor and execute transactions once certain conditions are satisfied, thus reducing the chance of manual errors. They can reduce the number of intermediaries needed and enable automatic payment either directly from the buyer's bank account or from the escrow account, thus enabling completion to occur more quickly. Therefore, the combination of blockchain technology and smart contracts could reduce overall cost for real estate transaction participants. However, a smart contract is not a contract as we know it. It is computer code which creates a self-executing agreement. Of course, in real life, contract terms may need to be altered or the contract itself may need to be terminated, but the blockchain technology underpinning the smart contract cannot be changed. Neither is it possible for a smart contract to recognise contract terms which require interpretation. For example, terms such as "complete within a reasonable time", "use reasonable endeavours", "co-operate in utmost good faith".

Many types of blockchain-based applications either utilise tokens as a currency to use the application or complete transactions using the application, or allow tokens to be created and traded within the application. Cryptocurrencies are the most well-known types of tokens. Blockchain technology could allow the tokenisation of real estate assets. This will not only increase the liquidity of traditionally illiquid assets, but it will also make it possible to fractionalise interests in those assets and then trade them. Instead of buying the whole or part of an interest in a property, you are buying tokens which will be more readily tradable on blockchain-based exchange.

Regulatory and Legal Challenges

It is estimated that there will be 22 billion devices connected to the internet by 2022 and the roll-out of 5G networks will inevitably fuel the growth of IOT and the adoption of many other technologies. PropTech is growing on a global scale and so it is vital that we identify and analyse any legal and regulatory challenges that arise as a result. Some of these challenges are identified below.

• Data Protection and Intellectual Property: Most emerging technologies rely upon, or create, significant amounts of data. Issues relating to data protection and intellectual property, as well as harnessing data as an asset, are important. For example, legal advice will be required in relation to the origins and ownership of datasets used, or created, by tech such as AI. How the data was obtained, cleaned and how it will be processed to ensure legal and regulatory compliance will need to be considered. Data may need protecting as confidential information/trade secrets. Many legal issues will be specific to the technology. For example, Blockchain involves storing data on the ledger irreversibly which runs counter to the principles of data protection – this will need to be addressed up front when implementing blockchain-based solutions.
• Service and Performance Issues: Technology is often offered on an 'as is' basis without warranties or performance guarantees. It is important to be alert to this and mitigate against the risks at an early stage.
• Liability for Systemic Issues: Risk allocation for infrastructure failure and cyber security breaches will require careful scrutiny because of the interdependency of elements of the system. The difficult insurance market at the moment makes this issue particularly pertinent.
• Avoiding Lock-in: Technology is evolving so rapidly that contracts must be carefully drafted to cater for current and future requirements, particularly if the technology is likely to be business critical.
• New Forms of Contract: IoT, automation and AI will increasingly feature in building requirements, and will require new forms of contract. For example, construction contracts may need to address the operating systems within a completed structure as well as the design and build elements. Similarly, the use of new materials and new techniques at the construction or re-purposing stage (for example, digital printing, robotics, drones), will require lawyers to be innovative and technically adept.
• New areas of Corporate Liability: Developments such as 5G masts provide opportunities for income generation in terms of leasing, however, associated legal risks might include health concerns arising from proximity to the masts. Similarly, use of drones on construction sites, for maintenance and monitoring purposes, and for transport of goods, provides opportunities but also raises a number of legal issues, for example, in relation to use of air corridors, rights of way issues and insurance.

Conclusion

Many questions still remain, particularly where global participants are involved; for example, choosing the appropriate jurisdiction and governing law, how to deal with liability issues when the technology goes wrong and how the different regulatory authorities will adapt to the challenges of technology. But it is already clear that headway is being made and the future looks bright in terms of the benefits PropTech can bring to real estate.

1. PropTech 2020. The future of Real Estate. University of Oxford Research. Saïd Business School
   
2. For more information see the Ashurst AI Guide