Book Review by Shael Herman
Not so long ago, real estate, both residential and commercial, was a premier investment. Home ownership had figured into the American dream at least since the end of World War II when our returning army, as if inspired by the epigram that every man's home was his castle, marched home in quest of new dwellings. A post-war economic expansion fueled new suburban developments, shopping malls, and office towers. Most city centers, boasting reliable interurban trams and trolleys, were still viable; the deplorable urban decay now familiar to us was largely in the future. Owners of vacant land benefitted from federal programs with seemingly insatiable appetites for rights of way that became arteries to the suburbs.
According to received wisdom, investment in real estate might not yield gargantuan profits overnight; but over time, the asset would yield a steady cash flow, and the tax shelter of the cash could be considerable. The asset's eventual resale value made it a hedge against inflation. Of course, real estate was no salvation from deflationary cycles, but the likelihood of collapsed markets was so remote that it did not merit attention. The Tax Reform Act of 1986 caught real estate enthusiasts off guard because earlier so-called tax reforms had granted such investors generous indirect subsidies in the form of depreciation, interest write-offs, and the like.
In 1986, reality, the bane of economic model builders, set in. Even naive and uninitiated spectators began to conclude that real estate loans would contribute mightily to the collapse of hundreds of thrifts and several major banks. By comparison with domestic real estate developments, even some third world investments were more attractive to bankers. Of course, foreign borrowers might not repay their loans. Loan defaults and inadequate collateral did not represent the worst news for banks and their irate shareholders. A virtue of a foreign loan portfolio was that it entailed no environmental hazards, real estate taxes, or casualty insurance premiums.
The current bank collapse is a recent episode in a saga that originated in the aftermath of World War II. The saga climaxed with exaggerated optimism that fueled the tax shelter craze of the 1970s and 1980s. Pressed by high tax brackets and lured by what political leaders hypocritically would later condemn as tax “loopholes,” taxpayers invested their cash in projects that promised, in lieu of immediate handsome profits, eventual modest ones plus at least two-for-one tax write-offs.
For keen-eyed investors, tax shelters that promised extreme tax savings signalled the declining attraction of real estate; for if real estate was still a premier investment, then federal tax give-aways were unnecessary carrots. By 1985, many investors had begun to realize that real estate's fortunes were in decline. In that year, real estate's mystique ebbed away when presidential and congressional action removed it from its pedestal as an investment vehicle by sharply cutting tax incentives associated with its ownership. Though John Q. Public might have devoutly wished to defer his taxes, tax deferral through real estate ventures had become an anathema to the federal treasury. The new tax reform act was billed as an equity measure, but reformers must have hoped to coax more revenue out of those who had escaped paying their fair share through “abusive” tax vehicles.
What nonsensically swollen projections and irresponsible appraisals had started, the Internal Revenue Service finished. Owners could not escape their hopelessly unprofitable real estate investments because their assets were not easily liquidated. Out of desperation the owners mailed their keys back to the banks. To the key chain filled with keys to failed projects, many banks, groaning under mounting piles of repossessed assets, added the keys to their own front doors and vaults. The federal government, as feckless agent of us all, became the none-too-proud owner of failed garden apartments in Houston and condominiums in Connecticut.
As if business conditions were not yet apocalyptic for surviving bankers, federal regulators, like so many Rip Van Winkles, were prodded awake by irate taxpayers and congressional leaders who for years had been pleased to let them slumber. To compensate for years of inattention, the regulators began to supervise the banks with a vengeance. Bankers recoiled at applications for real estate loans as if prospective borrowers had bubonic plague. Now elevated to jargon, the popular label for the bankers' new stance was “risk aversion.”
For the legal profession, the declension of real estate and its fall from grace signal more than financial catastrophe; these events constitute an intellectual tragedy as well. I make this statement without qualification because land law, as we learn regularly from Eastern Bloc nations with no tradition of private ownership, is the essence of private law; it is utterly indispensable for a free market economy. According to memorable advice in Voltaire's Candide, every person ought to cultivate his own garden. Poised imaginarily behind every man's castle, Voltaire's garden was a poetic metaphor for the laudable idea that if one exploited his own corner of the world for his greater personal good, society's aggregate welfare would follow along naturally. What Adam Smith and Voltaire endorsed, individualistic entrepreneurs, financial planners, and self-respecting property teachers could hardly deny.
Even without the economic collapse in the market, real estate, for other reasons, would likely have wafted a bad odor into the nostrils of the legal profession. Among the faculties and hence the law journal editors of the most prestigious law schools, property law is not trendy enough. The subject is too hard; it is too technical; or there is too much of it to master. Above all, real estate law is too local. In an age of specializations in national law, a lawyer hyperventilates upon learning that every parish in Louisiana has a separate clerk's office and that no two clerks handle their records identically. A mounting number of Louisiana clerks without any liability coverage suggests that they sometimes mishandle their records, and that their insurers, like banks, have contracted risk aversion.
In these respects, Louisiana is not unique. Based on my personal experience, the same observations would be true of many other states of the union. The dramatic variation in land law among locales explains why my colleagues in securities law chide me for “tolerating” an asset deal in which every title is crucial and every lease and title policy must be checked separately. With prodding, they argue, a client could be educated to appreciate a stock deal in which all the assets are rolled up into a corporation. At the closing, one has only to attend to the transfer of shares and compliance with securities laws. There is no need to race to several courthouses, and at a prearranged moment to record fistfuls of paper, often at great expense in fees and all sorts of taxes. After all, securities law, in the view of one of our most distinguished judges, is to law what brain surgery is to family medicine or even veterinary medicine. Securities law has the virtues of a national discipline, not a local one.
Alas, even for corporate brain surgeons, property law is dauntingly complex and unwieldy. Approaching the Byzantine, its variety persuades one that Karl Llewellyn, Grant Gilmore and other stalwart codifiers were wise in having excluded land law from their Uniform Commercial Code. Oregon property issues bear no necessary likeness to those in Florida; a title examiner in Orleans Parish would not be a recognized expert in title examination in a locale more than an hour from his office. Nevertheless, real estate, with all its faults and drawbacks, is a challenging and stimulating speciality. Real estate law is the framework or umbrella for a vast array of separate subjects and disciplines including community property, tax, wills, trusts, divorce, successions, corporations, partnerships, mortgages, negotiable instruments, leases, and alas, bankruptcy. All these areas affect titles to property and real security. Land law is as old as land; anything that could happen to a parcel of land likely has happened or it will.
In its formative stages, the common law was land law because English lawyers must have divined the centrality of property cases in court rolls dating from the Norman Conquest. If the French revolutionaries had not appreciated the importance of immovable property law, they would not have selected the law of things as the central panel in their civilian triptych, with persons arrayed on one side and modes of acquisition on the other. Heirs to both traditions, Louisiana lawyers have been injected with a doubly powerful intuition about the centrality of land law. Whether we are plagued by twice the problems is an issue for the authors of the books under review.
About the Author
Shael Herman. Professor of Law, Tulane University.
Citation
66 Tul. L. Rev. 613 (1991)