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Real estate transactions in Russia

The chapter from the book 'Guidelines for Investments in Real Estate' published by Legalink network of law firms.

Overview of various factors which must be considered when investing in residential or commercial real estate in Russia.

I. Procedure of a real estate transaction

1. Could you give a short outline with regard to the formal procedure of a real estate transaction in your country, starting from the signing of the purchase agreement (including the closing) until formal ownership vests in the purchaser?

a) Purchase agreement

Under Russian law, a real estate sale and purchase agreement needs to be in writing in the form of a single document signed by both parties. Unlike many other types of agreements, the real estate purchase agreement may not be formed by means of exchange of written documents (letters) between the parties, neither may it be signed with the use of an electronic signature.

There is no general mandatory requirement for the real estate purchase agreement to be notarised. However, the parties may, upon their mutual agreement, have it notarised. There are only two exceptions to this general rule: (1) sale and purchase of real estate owned by several persons (joint ownership); and (2) sale of real estate owned by minors or by other persons under guardianship or patronage, or with limited legal capacity. In these two cases, the real estate purchase agreement has to be witnessed and certified by a notary. In cases when the parties on their own initiative decide to have the purchase agreement notarised, then usually the notary also submits the documents for the transfer
of title to the registration authority. Furthermore, the parties may use the notary's deposit account for the facilitation of the payments under the purchase agreement, or the payment may be made in cash in the presence of the notary.

It is mandatory for a real estate purchase agreement to contain provisions providing a description of the real estate being purchased and its price. The property may be described by reference to its cadastral number or address, or by other means clearly identifying the particular real estate asset. If the agreement provides for the sale of two or more separate real estate assets, then, according to the courts' practice, the prices should be clearly set for each of the objects independently.

As a rule, before signing of the purchase agreement the buyer would examine the seller's title to the real estate. In most cases, the title is registered in the Unified State Register of Real Estate. There are, however, several particular cases when there may be no such registration of the title:

  • if the real estate was acquired by the current owner before 1998;
  • if the real restate was inherited;
  • if the real estate was transferred as a result of the reorganisation of a company;
  • if the real estate was acquired as a result of the owner's membership in a building cooperative.

The seller may enter into a purchase agreement while not having the title in the real estate object to be sold (but which, for example, is in the process of being acquired by the seller). It is mandatory, however, for the seller to have the relevant title in the real estate asset at the moment when the agreement is performed (i.e. the moment of transfer of the real estate asset to the buyer).

The parties may also agree on the purchase of a real estate that does not exist yet as of the date of the agreement but is going to be constructed. In such a case, in cases when the seller fails to transfer the real estate asset within the agreed terms, then the seller would be obliged to reimburse the buyer for any damages incurred and pay the penalties in accordance with the agreement.

b) Transfer of title

In accordance with Russian law, title in the real estate is transferred at the moment when the relevant record of transfer is made in the Unified State Register of Real Estate. In order for the changed title to be registered, both parties to the transaction need to file applications for the transfer of the title to the authorised registration body. In cases when the agreement has been notarised, then the notary public files the necessary application forms and other documents to the registration authority instead of the parties.

The application form is to be accompanied by the following documents:

  • the agreement or contract on the basis of which the title is to be transferred;
  • documents evidencing the powers and authority of the parties' representatives to sign the agreement and an application form (power of attorney, excerpts from trade register for companies' directors);
  • documents evidencing payment of the state fee for the transfer of title.

If the seller's title has not been registered by that moment (in any of cases listed above), then the seller's title is to be registered first, and immediately after that, the transfer of title to the buyer is registered. Once the transfer of title is registered, the registration body issues an excerpt from the Unified State Register of Real Estate recording the buyer as the new holder of the title in the real estate.

c) Transfer of possession

Transfer of possession is not a prerequisite to the transfer of title. However, in order to be able to exercise the relevant property rights the buyer should come into possession of the real estate. Transfer of possession may be precedent to the transfer of title or come after that.

In order to pass the possession of the real estate, the parties usually sign a statement of transfer which evidences the fact of transfer, as well as the physical state of the object being sold. At the same time, although the signing of the statement of transfer is prescribed by law, even in the absence of the statement the fact of transfer and, accordingly, due performance of the agreement may be proved by other means. Moreover, even if the buyer has signed the statement of transfer without raising any objections at that time, he nonetheless subsequently may still claim the defects of the real estate if he proves that such defects had arisen before the transfer.

Besides enabling the buyer to exercise the property rights over the real estate, such physical transfer of possession may also strengthen the legal position of the purchaser against a third party's claims to the title over the real estate, since in such cases the purchaser may prove his bona fide (see question 5 below) only if he has come into possession of the real estate. 

d) Payment for the real estate

Payment under the purchase agreement may be performed before the transfer of title or after that. The parties may agree on payment in instalments, or delegate payment obligations to a third party, or agree on the payment of the contract price to a third party instead of the seller.

If the purchase agreement provides for the payment(s) after the transfer of title, then, in accordance with Russian law, the real estate shall be pledged for the benefit of the seller as a security for the buyer's obligations to pay the agreed price. Therefore, in such cases, the registration body will record the buyer's title together with the pledge in the interests of the seller. However, this provision of law for the statutory pledge may be overridden by the terms of the purchase agreement.

The price of the real estate may be recorded in the purchase agreement in any currency or conventional units, subject to currency control legislation requirements. If both the buyer and the seller are residents of the Russian Federation, payments may be made only in Russian rubles. In this case, the price recorded in foreign currency needs to be exchanged into rubles according to the official currency exchange rate set by the Central Bank of the Russian Federation as of the date of the payment, or at any other exchange rate agreed by the parties. If either the buyer or the seller is not a Russian resident, then the payment may be made in any foreign currency.

2. Does your legal system permit different sorts of ownership, like ownership of the whole land and construction or ownership, for example, only of one unit or lots of units (condominium) of the improvements?

Russian law provides for the three main types of real estate:

  • plots of land;
  • buildings and constructions;
  • compartments (separate units) in buildings and constructions, as well as parking places.

These types of real estate are considered as separate objects, and therefore they may be owned by different persons.

If a building is separated into different compartments (as well as parking places) as separate real estate objects, then the building itself will not be considered as a single subject of property rights, but rather as a complex of separate compartments of real estate objects and common property. The common property may include constructive elements of the building: basement, walls, roof, building facilities, common places such as corridors etc., elevators, staircases etc. The common property is owned jointly by the owners of all of the compartments in the building. The share of each joint owner is set in proportion to the size of the compartments owned by such joint owner.

The common property is managed by a general meeting of the joint owners. Decisions are taken at the meeting by voting, with each joint owner having the number of votes in accordance with his share.

3. Does the legal system of your country permit joint ownership of real property? Which kind of entities can be owner of real property in your country?

a) Joint ownership

Russian law recognises joint ownership of the real estate. Joint ownership appears in cases when one real estate object is acquired by several persons. As a general rule, the shares of the joint owners are determined on the basis of their agreement and are usually equal to the amounts of their investments into the real estate.

There are also situations where the establishment of the joint property is mandatory and the size of the shares is stipulated by the law. For example, this is the case for the common property in a building with separated compartments (see question 2 above). In that case, the shares of the joint owners are always proportionate to the size of their compartments, and this provision of law may not be changed by any private agreement.

In certain cases prescribed by law, joint ownership exists without dividing it into set shares. There are only two such cases:

  • matrimonial property: any assets acquired by either spouse while married are subject to the joint ownership of the couple, with some minor exceptions;
  • property regime of the farming household: property used for farming is subject to the joint ownership of all members of the household without any set division of shares (a farming household is quite a rare form of agricultural business not being a corporate entity).

Operation of the real estate jointly owned by several persons is subject to their mutual agreement. As a general rule, a unanimous agreement is needed to handle these issues, except for the general meeting of the joint owners of compartments in a building (question 2 above), where the decisions are taken by majority of votes.

b) Capacity to be the owner of real estate

Russian legislation does not provide for any special requirements for a person to own the real estate. The real estate may be owned by any individual or entity. There are certain limitations based on national security grounds, but the list of such limitations is quite narrow (see question 17 below).

4. In some countries the ownership of a building is implied in the ownership of the land. Is it this way in your country as well, and/or is it possible to have different owners of the land and the building erected on it?

Russian law is based on a system of separate ownership of the land and of the building. Therefore, the land plot and the building erected on it may be owned by different persons. At the same time, if the owner of the building (or the owners of the compartments in it) are not the owners of the land, they still have to obtain some rights over the land plot establishing the legal basis for the building to be located on the relevant plot of land. At present, the most popular right used for that purpose is a lease right placing the owner of the building into quite a strong legal position: the owner of the land has no right to
avoid entering into the lease agreement with the owner of the building and cannot terminate it even in case of non-fulfilment of the payment obligations by the lessee. Moreover, the land plot owner cannot lease the land plot taken by the building to any other person other than the owner of the building.

If the building is owned by several persons (as well as in case where the building is separated into compartments), and the land is owned by another person, than all owners of the building (or compartments in it) are considered as the lessees in proportions equal to their shares in common property of the building (see question 2 above).

In the case of transfer of title in the building (or a compartment) the purchaser acquires the same rights over the relevant land plot as the seller had prior to the sale. Furthermore, if the building and the land are owned by the same person it is not allowed to sell the building without selling the land occupied by it as well.

Current Russian legislation promotes joining of the titles over land and a building built on it. For that reason, for example, the law entitles the owner of the building with a right to purchase the plot of land on which the building is located in cases where the land plot is owned by the state. Such purchase is subject to preferential conditions: the purchase does not require a public auction to be held (as in usual cases of purchase of state-owned land), and the land is sold at the price determined by an independent expert.

There is only one significant exception to the rule of separate ownership over the land and the building: a plot of land occupied by a house which is in itself a block of flats, as well as the neighbouring territory, is jointly owned by the owners of units in such building (as the common property of the joint owners, see question 2 above). This rule, however, does not apply to commercial buildings having separate units; owners of the units in such building may have either property right over the land, or a lease right.

5. Is the land and/or the building registered in a formal register, and is a good faith purchaser protected with regard to the entries in this formal register?

a) Registration system for real estate

Russia has implemented a system of registration of titles in real estate. The general rule is that the title in real estate only exists from the moment of its official registration. As an exception, the title in real estate may exist regardless of the registration in the following cases:

  • the real estate was acquired by the current owner before 1998;
  • the real estate was inherited;
  • the real estate was transferred as a result of the reorganisation of a company;
  • the real estate was acquired as a result of the owner's membership in a building cooperative;
  • the real estate was acquired by the spouses as a matrimonial property (see question 3(a) above);
  • the real estate is a part of common property of the joint owners in a building (see question 2 above), including the land occupied by the block of flats (see question 4 above).

The most perilous situation for a purchaser is the situation with the real estate being matrimonial property, as current court practice does not protect the good faith purchaser from the claims of the seller's spouse regarding his or her rights in the sold estate.

Moreover, limited proprietary rights and interests over the real estate (e.g. easement, pledge) do also emerge only when officially registered.

Some restrictions imposed on the property rights in the real estate would also be considered as existent only once registered. Examples of these restrictions are:

  • court or administrative freezing order over the real estate;
  • long-term lease of the real estate (over one year).

At the same time, regardless of the registration, these restrictions are binding on the persons aware of the relevant order establishing the restrictions, including a party to the proceedings in which the order was imposed, or a party to the lease contract.

b) Protection of bona fide purchaser

Russian law provides legal protection to good faith purchasers, as a general rule, and the registration of the title does not have a great significance in this regard.

The good faith purchaser is being protected from third-party claims if all of the following conditions are present:

  • bona fide (good faith) of the buyer, which means that the purchaser does not know that the estate is acquired from an unauthorised person;
  • the real estate is acquired for value;
  • the true holder of the title over the real estate has voluntarily lost or given up possession over the real estate.

These conditions have to be present at the moment when the purchaser would have become the owner of the real estate in a normal situation – that is, the moment of the registration of transfer of the title to the purchaser (see questions 1(b), 5(a) above). Therefore, such purchaser is not the "true" purchaser in principle.

Registration of title is a prerequisite, but not enough for the purchaser to be considered as a good faith purchaser and thus protected.

The good faith purchaser would not be protected if it has not come into possession of the real estate, even if its title has been registered (see question 1(c) above). Moreover, if it is established that the purchaser had to notice or be aware that he was acquiring the real estate from an unauthorised person at the moment of the transfer of possession, than such purchaser would not be considered as a bona fide purchaser.

Finally, the protection may be granted to the good faith purchaser only if the true holder of the title in the real estate has voluntarily lost or given up possession over the real estate. That means not only the actual transfer of possession (which may be transferred voluntarily), but also the intention of the owner to transfer the title in the real estate. Therefore, if the owner had passed the possession over the real estate to another person without any intention to transfer the title as well, and such transfer had been subsequently recorded without the consent of the original owner, than the owner would not be considered as having voluntarily alienated the real estate. In such case the original owner would be able to claim the real estate back from the good faith purchaser.

II. Financing tools of the transaction

6. How do investors finance the transaction? Can purchases be financed through real estate purchase contracts? Are mortgages the typical way of coverage for banks?

The most popular way to finance real estate transactions in Russia is through a bank loan with a pledge of the real estate in favour of the lending bank. Such a financing scheme is so common that it is called by the word "hypotheca" in everyday usage, although the word "hypotheca" means any pledge of a real estate according to the legislative definition.

In such a case, a bank obviously finances only transactions up to the value of purchased real estate. Any remaining part needs to be paid by the investor himself, or the investor has to provide other security: a pledge of another property, a personal surety of a third party, a guarantee of another bank etc.

Other ways of financing the transaction of real estate are poorly developed in Russia. For example, leasing of real estate is legally provided for, but remains quite exotic, and leasing companies rarely agree to finance such transaction of real estate.

7. What should be taken into account when thinking about the financing of a purchase project in your country?

a) High interest rates on loans in Russian banks

Despite the fact that Russian residents are not prohibited from receiving funds from foreign banks, the Russian currency legislation requirements may impose some difficulties for them when being financed by a foreign bank.

At the same time, interest rates on loans in Russian banks significantly exceed the rates on loans in many other foreign banks and are currently at the level of about 10% per annum or more on loans secured by the pledge of the purchased real estate.

Thus, the investors are forced to choose between Russian banks with high rates and their domestic banks, which may, on the one hand, be unprepared to accept assets located in Russia as collateral, and on the other hand, be unacceptable for Russian counterparties due to the need to comply with the Russian currency legislation requirements.

b) Title insurance

Since the current registration system in Russia does not provide full protection to a good faith purchaser (see question 5b), insurance of title is a common request from the lending banks to the prospective purchaser of the real estate being purchased and pledged. In this regard, the costs of insurance premium payments should be included in the total calculation of the investor's expenses.

III. Costs for transaction

8. What tax aspects are directly involved in a purchase of real property – for example, real property transfer tax – and what is the percentage of it?

According to Russian law, the real property transaction itself is not subject to any tax.
Only general taxes are imposed on the purchase of real property:

  • value-added tax (VAT),
  • corporate tax,
  • individual income tax,
  • tax payable under the simplified taxation system.

VAT is set at a rate of 20% in Russia. The entire amount of tax shall be payable to the budget, though should be added to the value of goods and services, including real estate. The seller must provide the purchaser with a VAT invoice, which is the basis for the buyer to deduct VAT amounts declared by the seller. However, given that the purchaser may not have comparable taxable income in Russia, a VAT invoice may be useless for him.

Corporate income tax is paid by the seller, being the legal entity earning the income from the transaction. The corporate tax rate in Russia is generally 20%. The taxable amount of income is reduced by the documented amounts of costs incurred by the taxpayer

Individual income tax is imposed on sellers, being individuals. The amounts received by the seller from the purchaser form the seller's taxable income. Unlike the corporate tax, there is no deduction of costs for the individual income tax. At the same time, when selling real estate, this tax may not have to be paid under certain conditions (see question 9 below). The individual income tax rate is:

  • for Russian residents, 13%;
  • for non-residents, 30% of income received in the territory of the Russian Federation.

Some legal entities and individual entrepreneurs are allowed to apply the simplified taxation system, which means that the above taxes are being replaced with a single tax. Rates of such a single tax vary from 0% to 15%, depending on certain conditions of business activity of the taxpayer and the territory of its registration.

A person using such a system of taxation needs to provide the counterparty with a confirmation of the right to apply the simplified taxation issued by the Russian tax authority. At the same time, the seller using such a system may not demand payment of the VAT from the buyer, nor can he provide an invoice by means of which the amount of VAT subsequently charged to the purchaser could be reduced.

It should be taken into account that the simplified taxation system is reserved for small businesses. Therefore, the seller loses the right to apply it if its income exceeded RUB 150 million. Given the usually high cost of real estate, it is likely that the seller would not be able to apply such a simplified system after the sale of the real estate to an investor. In such a case, the seller would be subject to general taxes.

9. Do you have to hold the property for a specific time with respect to tax reasons, or is it in this context no problem to buy and sell property on a short-term basis – for example, within a year?

The term of ownership of real estate makes a difference only if the seller is an individual. Such a seller is fully exempt from individual income tax by owning the property for more than five years. In some exceptional cases, this period can be reduced to three years. Furthermore, the term may be reduced by regional laws of the Russian Federation.

10. Can the seller get his money out of your country after the transaction (repatriation of funds)?

Under Russian laws, a foreign investor is guaranteed with the right to return the invested funds, including the right to get his money out of Russia.

11. If you buy real estate that is leased to one or more persons, are you allowed to terminate the lease contract(s) or which restrictions have to be taken into account?

Russian law provides for the unconditional preservation of the leaseholder rights when changing the property owner.

An exception to this rule is established for a good faith purchaser. In the event that the lease contract was subject to state registration (lease for a period of more than one year is subject to state registration), but was not registered, and the purchaser did not and could not have known of the existence of the lease, then such purchaser is not bound by such a contract.

12. Are you allowed to change the use of a building from residential use to office space or vice versa? Do you need official approval for doing so, or is it not allowed at all?

Residential use of a building may be changed to office use provided that it is (or can be) equipped with a separate exit to the outside of the building or at least an exit through other premises with no access to residential premises.

Change of the use of a building from residential to office and vice versa is carried out by the local authority and requires an owner's application together with the site plan, confirming the possibility of such a change in compliance with construction rules.

13. To get a feeling as to the amount of costs involved, what costs should be taken into account if a foreign investor bought an existing building (and land) for a purchase price of €5 million, particularly
• notarial costs?
• land register?
• real property transfer tax?
• advising lawyer (due diligence)?
• estate agent?
• Others?

    Transaction costs are relatively small in Russia and in the described situation are the following:

    • notarial costs (are non-obligatory, see question 1a) – about €1,500,
    • land register – about €315,
    • real property transfer tax – none (see question 8),
    • advising lawyer (due diligence) – depends on the characteristics of a particular property and its history. Fees charged by Russian lawyers vary widely, ranging from very modest by European standards up to rates comparable to London or US rates if lawyers from Russian offices of major international law firms are involved,
    • estate agent – the participation of the estate agent in the real estate transactions is optional. Most transactions for the acquisition of commercial property are made without agents. The Russian market of estate agents is focused mainly on sellers and purchasers of residential real estate. The costs of estate agents' services vary even more than the costs of legal services.
    • Others – depending on the characteristics of the property, it may require the involvement of specialists in the field of construction, engineering, protection of cultural heritage, environmental safety etc.

    IV. Costs for holding real estate

    14. What tax aspects are directly involved when holding a property – for example, yearly land tax after the transfer of ownership – and what is the percentage of it?

    Depending on the legal identity of an investor, as well as on what kind of property is owned and where such property is situated, the real estate ownership may be subject to one of the following taxes:

    • corporate property tax (imposed on legal entities) – up to 2% of the cadastral value of real estate per annum (the exact tax rate is determined by the regional law);
    • individual property tax – in general, up to 2% of the cadastral value of real estate per annum (however, the tax rate may be varied by municipality from 0% to 6% depending on different conditions);
    • land tax – up to 1.5% of the cadastral value of real estate per annum.

    15. What are the costs you have to calculate as a foreign investor, if you engaged a professional property management for the purchased property? How does the property management normally charge for their work?

    The costs of professional property management differ significantly depending on the type of real estate, its location, size, purpose and other factors that do not allow to give a generalised assessment of the costs of such services.

    Real estate management companies usually agree a list and frequency of provided services with the client and charge a monthly fee for the entire agreed services. Some extra services may be paid for on a fixed basis.

    V. Foreign investors

    16. Would you advise foreign investors at the moment to invest in your country
    • directly in real estate?
    • through real property funds, open or closed ones?
    • through other clear and secure financial products?
    • In commercial real estate or in residential property.

      The large territory of Russia, with a wide variety of natural, business, economic, social and other conditions, determines a wide variety of real estate in the market with different investment attractiveness.

      The current real estate registration system determines the relative security of owners, but there are still prevailing defects in the legal system, such as domination of state interests over interests of private owners, the possibility of unpredictable changes in public regulation and the volatile economic environment, which can frighten away investors.

      Within this framework, financing the transaction of real estate in Russia can hardly be considered as a profitable or reliable investment per se. Therefore, real estate purchase is reasonable only if there is an understanding of the purpose for which such investment is made – in other words, a business plan for the implementation of which the real estate is needed.

      The commercial real estate market is the most promising in this regard, especially in regions with dynamic economies (Moscow, St Petersburg, major cities of the Volga region, the Urals and Siberia).

      Real estate investment funds operate in Russia, but their profitability can hardly be compared with stock market investment funds.

      Foreign investors can establish a Russian company acting along with other Russian entities in the domestic market, which is the most common way of real estate investment. However, this way of investment has its risks associated with the business and political environment in Russia.

      17. Is any individual person and legal entity allowed to buy property in your country, or are there restrictions with regard, for example, to nationality or registered office of legal entities? If there are restrictions, are there ways to organise a domestic entity for the purchase on a valid legal structure notwithstanding?

      Restrictions on the purchase of the real estate by foreigners in Russia are insignificant. Foreign persons cannot hold title in land plots located in the border territories; agricultural-purpose land plots (but they can hold lease to it); and land plots located within the boundaries of seaports.

      Establishment of a Russian legal entity could help to overcome these restrictions in certain instances. For example, the prohibition of agricultural-purpose land ownership on foreigners also extends to Russian legal entities in which the equity participation of foreigners exceeds 50%.

      18. If a foreign investor buys a plot of land in your country to run a business there, what kind of official approvals are needed and what time and effort are needed normally to get it?

      The possibility of land use in Russia is determined by the category of land.

      There are the following categories of land which can be owned by a private person:

      • agricultural-purpose land;
      • settlement land;
      • industry land and the land of other special purposes;
      • the land of specially preserved territories and facilities.

      Each category of land has its own limitations. Settlement lands are the most commercially viable. Lands of this category are subject to more detailed rules of use, which are established by the local municipal authority for each territory, as a part of the rules of land use and development. These rules provide for the limits of possible uses of the land within the given territory, including types of buildings that are allowed to be constructed on it.

      Within this permitted use, the owner of the land plot is entitled to carry out any activity provided by the rules. At the same time, if the investor wants to construct or reconstruct any building or structure, in most cases it is necessary to obtain a construction permit prior to commencing construction. Before obtaining a construction permit it is often necessary to get the expert assessment of building design documentation. Upon completion of the construction, it is necessary to secure a permit for commissioning issued by the local authorities (or authorities of the constituent entities of the Russian Federation), thereafter a registration becomes possible.

      19. Could your firm assist foreign investors in
      • finding interesting real estate and related valid investment products in real property in your country where required through personally known estate agents and other advisers?
      • developing construction projects?
      • all legal aspects involved in these contexts?

        INTELLECT law firm is ready to provide full legal support for the purchase, construction and operation of real estate in Russia.

        INTELLECT is able to offer recommendations and suggestions on matters related to the choice of investment projects, finding various local partners, advisers, specialists in real estate and construction in different Russian regions.

        The 'Guidelines for Investments in Real Estate' chapter on real estate transactions in Russia has been prepared by INTELLECT lawyers leaded by Alexander Latyev, the head of practice 'Commercial Realty and Investment'.

        The book 'Guidelines for Investments in Real Estate' is publicly available.

        International projects of INTELLECT, including activities within Legalink, are coordinated by Philipp Koverchenko, Eugenia Lomakina and Vadim Stetsenko, the International Desk team.

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