National Security Concerns in Real Estate Transactions

September 04, 2018

In late 2012, an American company, Ralls Corporation, with two Chinese ultimate owners, purchased certain wind farm projects in Oregon, including associated real estate. What began as a routine cross-border transaction sparked a three-year lawsuit between Ralls Corporation and the Committee on Foreign Investment in the United States (CFIUS), an inter-agency committee housed within the Executive Branch and tasked with reviewing foreign investments in the U.S. based on national security concerns. In a nutshell, CFIUS determined that Ralls Corporation’s acquisition of the wind farm projects posed a national security threat, and required Ralls Corporation to divest its interest in the project.

So, why did the purchase of some wind farm projects in Oregon cause CFIUS heartburn and implicate national security concerns? Although the classified nature of materials do not provide all the answers, CFIUS review was triggered, at least in part, by the fact that one of the project sites was within U.S. Navy restricted airspace and three other sites were within seven miles of restricted airspace. Ultimately, Ralls Corporation and CFIUS settled the case in 2015. If nothing else, the Ralls Corporation saga serves as an insight, particularly in the real estate context, into an otherwise opaque CFIUS review.

On August 13, 2018, a reform to the CFIUS process, the Foreign Investment Risk Review Modernization Act of 2018 (FIRRMA), was passed into law. Before FIRRMA, the most recent reform to the CFIUS process dates back to 2007. Over the last decade, critics and advocates alike have called for revisions to the CFIUS process in light of developing technology and increased cross-border activity. FIRRMA materially expands the scope of CFIUS review, and includes real estate transactions with the definition of “covered transactions” (those transactions that fall within the scope of CFIUS review). Pursuant to Section 1703(a)(4)(B)(ii), a covered transaction is, in part, “the purchase or lease by, or a concession to, a foreign person of private or public real estate that –

(I) is located in the United States;

(II) (aa) is located within, or will function as part of, an air or maritime port; or

(bb)(AA) is in close proximity to a United States military installation or another facility or property of the United States Government that is sensitive for reasons relating to national security;

(BB) could reasonably provide the foreign person the ability to collect intelligence on activities being conducted at such an installation, facility, or property; or

(CC) could otherwise expose national security activities at such an installation, facility, or property to the risk of foreign surveillance; and

(III) meets such other criteria as the Committee prescribes by regulation, except that such criteria may not expand the categories of real estate to which this clause applies beyond the categories described in subclause (II).”

FIRRMA provides a definitional outline on what constitutes as “close proximity,” but a review of the forthcoming regulations are likely to fill in further details – “. . . [CFIUS] shall prescribe regulations to ensure that the term ‘close proximity’ refers only to a distance or distances within which the purchase, lease, or concession of real estate could pose a national security risk in connection with a United States military installation or another facility or property of the United States Government described in that subparagraph.” Note that certain real estate transactions are excluded from CFIUS review – “the purchase, lease, or concession of (I) a single ‘housing unit,’ as defined by the Census Bureau; or (II) real estate in ‘urbanized areas,’ as defined by the Census Bureau in the most recent census, except as otherwise prescribed by the Committee in regulations in consultation with the Secretary of Defense.” Section 1703(a)(4)(C)(i).

The language from FIRRMA Section 1703(a)(4)(B) above indicates the legislature’s intent to provide CFIUS broad-based authority to question any real estate transaction that could “expose national security activities.” Accordingly, companies may consider seeking CFIUS approval before-the-fact as part of their due diligence and account for lead times in their transaction schedules. Ralls Corporation was faced with the mandate to divest its interest post-closing even though it owned the real property and obtained easements. CFIUS implications may arise in various real estate contexts including EB-5 immigration investments in real estate, real estate transactions in an M&A deal, and in a pure real estate purchase and sale (note that lease arrangements may also trigger CFIUS review). In addition to the buyer and seller (or lessor and lessee), lenders (and especially foreign lenders) should have a heightened awareness to potential CFIUS review as CFIUS involvement may occur after financing has been put in place. Considering the expanded scope of CFIUS review under FIRRMA, a proactive versus reactive stance is likely to best serve all stakeholders in covered real estate transactions.