Ukraine: The Investment Case For Redeveloping Kiev's Historical Buildings As Housing

Last Updated: 30 May 2018
Article by Svitlana Teush and Robert Shantz

It's a fact that there's a severe lack of multi-bedroom apartments with western-style renovations for lease in the very center of Kiev, as most apartments in this area are occupied by two main groups of people who are not investing in the properties. The first group consists of elderly/retired people without the financial means to refurbish their apartments. The second is people who acquired these apartments more than a decade ago and renovated them back then, but now they are unwilling or unable to invest in order to update the interiors and/or the engineering infrastructure. When it comes to newly developed residential buildings with apartments that meet expats' standards, there are few in Kiev's center due to a lack of vacant land plots and in any case such apartments are usually occupied by wealthy local owners, or left empty by these owners who often have unreasonably high asking prices and don't want to rent them out "for cheap." Meanwhile, Kiev has scores of derelict historical buildings in prime locations that could be excellent candidates for redevelopment as premium housing. This article explores the investment case for redeveloping Kiev's historical buildings as residential housing and discusses market demand, potential yields, redevelopment strategies, and legal issues that potential buyers should bear in mind.

Kiev's Expat Housing Deficit and Market Opportunity

In Kiev landlords were spoiled by the good times of pre-2008 financial crisis and pre-Maidan prices and many haven't updated their price expectations to present-day realities. Meanwhile, many embassies have strict and lengthy housing requirements for safety and security covering everything from electrical load capacity and grounding to the dimensions of stairs and handrails, to elaborate requirements for entrance doors and locks. While diplomats can make excellent tenants (large budgets, often sign leases for 2-3 years), local landlords already depressed by "low" prices are reluctant to take on additional expenses to retrofit their apartments to make them compliant with embassy housing requirements. Thus, Kiev's deficit of housing that meets expat tenants' requirements pushes up prices–even non-diplomat expats can't understand why they should "pay more for less" when compared with rental prices in other Central and Eastern European capitals. And with Ukraine's economy just starting to grow again this deficit is expected to become more acute in the short and medium terms if more premium rental housing is not brought online downtown quickly.

Redevelopment Strategy for Premium Rental Housing

Unlike much of the world, Kiev has almost no purpose-built rental housing; and nothing like this exists for the premium segment. In Ukraine it's not considered "prestigious" to live in rental housing. And local developers, who are interested in the potentially higher returns offered by apartment sales, don't want to trouble themselves with renovating, furnishing, and managing apartments–why bother with all these details when you can sell a buyer an unrenovated "shell and core" with decent margins? Besides, these developers lack the experience and expertise to develop and manage premium rental housing to meet the needs of premium expat clients–thus far they haven't shown the ability to conduct even rudimentary market research to create a housing concept that meets a clear market need for any segment. A farsighted foreign investor with redevelopment experience could fill this gap in the market with a housing product tailored to the needs of expat tenants. For example, an entire building could be redeveloped taking into account all of the safety and security requirements of embassies together with foreign tenants' preferences for design and functionality. What about investment yields? Today in Kiev savvy buyers have been able to achieve 10-12% gross yields on apartments in older buildings in the prime rental district (Golden Gate-Universytet-L'va Tolstoho-Teatralna), and similar or higher yields could be achieved by an investor who buys and renovates the right building in the right location. Foreign investors who are concerned about currency risk should keep in mind that prices for premium rental apartments in Kiev are fixed to the dollar or EURO.

Legal Considerations for Buying an Historical Building in Kiev

Here's a brief introduction to some of the key legal issues for foreign investors who are considering buying an historical building in Kiev. In Ukraine your acquisition could be structured as either an asset or share deal. Unlike a share deal, an asset deal may be VAT-able. In a share deal, it is important to analyze and structure the legal and corporate presence of a buyer, taking into account investment protection and profit repatriation considerations. Debt or equity financing of acquisitions can be used, and each has a particular impact on cash flow and taxation. A foreign entity without permanent establishment or a foreign individual who owns a building in Ukraine should register with the tax office through an agent, who will on its behalf pay the real estate property tax. Lease payments paid by a Ukrainian resident lessee to a foreign entity or individual are subject to withholding tax at the rate of 15%, unless a relevant double tax treaty provides for either a lower tax rate or tax relief. For some deals, antimonopoly clearance might be needed where parties to a deal have turnovers which exceed the established financial thresholds. Some leases associated with a change of control can also call for antimonopoly clearance. Recently introduced in Ukraine, escrow bank accounts can be used to allocate and mitigate risks during the acquisition of a building. Thus far this tool has mainly been used for large capital projects, but it can also be used for the acquisition of smaller assets such as buildings or apartments if the parties are prepared to incur the related costs. Today escrow can only be used through the banks and under Ukrainian law, notaries and attorneys are not yet eligible to serve as escrow agents.

Since Ukraine's online public register of real estate has only been operating since 2013, for checking title and encumbrances a thorough due diligence is recommended, including investigation into the history behind the target property and previous transfers of title to it, as well as an assessment of any ongoing disputes which might prevent a sale or affect the title of a new owner (many derelict buildings have ongoing disputes that would need to be resolved). The general statute of limitations in Ukraine is three years, but it does not provide an absolute guarantee against third-party claims against a new owner; in certain instances the courts can renew the statute of limitations. To secure the legal ownership of a property against future claims by third parties, legal due diligence is strongly recommended. Ideally, not only should the current title be checked, but also the history of the property including previous transfers of title. Some unusual practices have developed in Ukraine to protect ownership; for example, registering a mortgage on such a property in favour of a related party, and reselling a property through a chain of related buyers. A buyer should also check the title to a land plot underlying the target asset and identify whether it provides for ownership, lease or permanent use. The cadastral number of an underlying land plot should be indicated in a sale and purchase agreement for a building or premises. However, this does not entail the automatic transfer of title to the land, and the buyer of a building also needs to acquire and register rights to this land plot, if possible. This is because separate title documents each certify rights to a plot of land or building, and the procedures for each may differ.

Renovations or reconstruction that have been performed without proper permits, or are otherwise illegal, can affect or prevent a deal even where both parties are interested in it being completed. A buyer should check the technical passport for a property, and ensure that it is updated to reflect renovations (reconstruction). It is difficult to sell real estate which has been illegally renovated, and a court ruling may be necessary before a buyer and a seller can proceed with a deal. Whether a particular renovation requires any permits and changes to a technical passport and title document needs to be checked on a case-by-case basis. This depends on the nature and scope of the works as well, as the effects on a building. When buying real estate you should check it for compliance with the purpose of its use as set out in its title document, as well as the urban development plans and limitations, zoning plans, and other city planning documentation. This is not always systematized and publicly available online, and checks may need to be made with the local authorities. The purpose of real estate may be changed (for example, from residential to commercial) in accordance with the procedure established by local authorities, which varies from city to city. When buying an older building in Kiev it is especially important to check whether the target property is a monument of architecture–such cultural heritage sites have a special legal status which aims to protect and enhance their integrity. Various restrictions and/or requirements can apply on the transfer of ownership, a change in the mode of use, or renovations of the property which can or cannot be undertaken on it and the surrounding area. It may be necessary to enter into special "protection" contracts with relevant state authorities which manage the protection of cultural heritage. Renovations can either be entirely prohibited, or allowed subject to strict procedures and requirements, depending on the status of a property and the terms of a protection agreement.

If it Were Easy...

As the saying goes, "if it were easy, everyone would do it" and this certainly applies when it comes to buying and redeveloping a derelict, historical building as premium housing in Kiev's center. And yet market demand and potential investment yields are enticing. It's certainly not an easy prospect, but a savvy foreign investor teamed with experienced real estate and legal advisors should be up to this challenge. We'll see.

About the author: Tim Louzonis (tim@aimrealtykiev.com) is a co-founder of AIM Realty Kiev, a real estate agency that specializes in real estate services for expats. Tim is a long-time expat with Ukrainian roots. He first came to Ukraine as an exchange student in 1993 and returned in 2008.

A version of this article originally appeared in the February 2018 issue of Business Ukraine magazine.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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