Ukraine has caught a virulent strain of the property boom virus. In the capital city of Kiev (pop. 2.6 million) house prices rose by around 65% in 2005, according to Kiev real estate agents In Real. This extraordinary growth follows 30% price growth in 2004, and 35% price increases in 2003. In January this year (2006) the situation was reported to have stabilized, but of course no-one is sure what comes next.

The average price for properties located in central Kiev is now around ?1,240 per square meter (sq. m.) in 2005, according to the local estate agents Teren Plus. The prices range from ?700 per sq. m. to around ?2,350 per sq. m., depending on the district where the property is located. The most expensive apartments in the city center or the Dniper River cost around ?3,900 to ?7,800 per sq. m.

This is curious, because there is no hyperinflation in Ukraine. The official inflation rate for 2005 was only 8%.

The hryvnia was introduced in 1996 and initially steeply declined against the US$, but the currency has been rather stable against the US$, fluctuating for the past five years between H5.5 to H5 to the US$, reflecting a semi-peg.

There is clearly a speculative element (see the discussion in Kiev Weekly) in a situation in which monthly property prices are rising at an average rate of 5% per month, but there are other factors too.

Connections and bribes

Ukraine is still a semi-socialist country. The construction market in large cities is divided between two to three companies, whose management is directly linked with the local authorities. For example, nearly 70% of the new residential buildings in the capital are built by companies that belong to the KyivMiskBud holding company in which the Kyiv City State Administration has a large stake, and the same phenomenon is observed in other cities.

So those having direct ties to high ranking officials and who are prepared to pay large bribes come out as winners in land allocation, allowing construction companies to acquire land plots for construction. There are few builders, and at the moment, demand largely exceeds supply, and so there is a seller’s market. In the primary residential segment of the market in 2005 the volumes grew by only 7.5% and a amounted to 1130 million sq. m., according to In Real.

“In the majority of cases people invest their money in apartments being built exclusively for further sale and resale to turn a profit, rather than to live in them,” says Serhiy Zakharin of the Institute of Economics and Forecasting at the national Academy of Sciences, (as quoted in Kiev Weekly).

He also notes that the beginning of the real estate boom coincided with the stabilization of the currency. He suspects that there is a ‘currency turn’ to be made out of buying new property in local currency, and reselling in dollars.

Protection from inflation

Zakharin adds that the hyped up demand for real estate in 2005 was caused by people’s desire to protect their savings from inflation by investing them, and that the absence of alternative ways of saving and multiplying money in Ukraine is one reason the real estate market boomed.

Other factors are rapidly declining interest rates, and the development of the home mortgage lending, which grew by 55% in 2005 as compared with the previous year.

The rapid increase in prices of real estate in Kiev has stimulated the construction of houses surrounding Kiev. Starting from the year 2000 there were couple of “cottage towns” built near Kiev, mostly in the Koncha Zaspa area, which is close to the Dnepr River.

Over the next two years another 15 cottage towns around Kiev are planned, with a total area of 200 thousand sq. m. The prices for houses in cottage towns are from US$800 to US$2,000 per sq. m. including the price of the land plot. There are average houses costing from US$175,000 to US$250,000, but also elite houses costing from US$700 000 to US$ 2,500,000 (The average construction cost for these houses is from US$400 to US$600 per sq. m, depending on the materials used, according to InReal).

Ukraine: Rental Yields

Yields in Ukraine are high at 8.8% on the average. By Global Property Guide estimates, yields in Kiev range from 6.9% - 10.2%. The average price per square metre (sq. m) of apartments is around ?2,930.

“In the majority of cases people invest their money in apartments being built exclusively for further sale and resale to turn a profit, rather than to live in them,” says Serhiy Zakharin of the Institute of Economics and Forecasting at the national Academy of Sciences.

The beginning of the real estate boom coincided with the stabilization of the currency. Zakharin suspects that there is a ‘currency turn’ to be made out of buying new property in local currency, and reselling in dollars.

Kiev:

Tenancy law is pro-landlord

Rents: Can landlord and tenant freely agree rents in Ukraine?
As a general rule rent in private leases can be freely agreed between the parties, and is not subject to control.

Rent increases between private parties are not in general statutorily regulated, and the parties may agree on a procedure for periodic increases (e.g., depending on inflation).

The Civil Code provides that limits on maximum rent may be imposed by special legislation. For instance rent with respect to land leased from the state may not be less than the amount of the land tax or more than 10% of the land’s statutory value. The law regulates rent increases for specific kinds of leases, e.g., rent in respect of municipal agricultural land is reviewed every three years.

Deposits

Security deposits for leases are not regulated, and the parties are free to agree the mechanics of a security deposit. In practice, landlords often require security deposits.
One type of security device expressly provided by the Civil Code which may be used in lease agreements to secure rent payments is earnest money. The earnest is a sum of money paid by the debtor to secure his performance. Thus if the tenant fails to pay on time, the earnest is kept by the landlord, and if the landlord fails to perform for his part (e.g., by not delivering the property), he must return twice the earnest amount.

The Civil Code specifically permits security devices not expressly provided by law.

What rights do landlords and tenants have in Ukraine, especially as to duration of contract, and eviction?
No notice is required to evict a tenant at the end of a fixed term contract. Any tenant may be expelled from the property if he does not leave voluntarily after the termination of a lease agreement.

Notice however is required in some instances. The rules vary, depending on the duration of the lease, and the reason for termination.

The tenant may at any time terminate the lease without application to the court, by giving three months notice to the landlord, or without notice, if the property has become unfit for habitation.

The landlord in a lease of no fixed duration is obliged to give three months advance termination notice. At the same time a landlord may terminate a lease without prior notice and without application to court if the tenant fails to pay rent for three consecutive months.

A landlord may terminate a lease agreement by application to court where the tenant: uses the leased property in a manner contrary to the lease agreement or the intended use of the property:

• has sublet the property without the consent of the landlord;
• by his negligent conduct has created a threat of damage to the property;
• has not carried out capital repairs of the property where obligated to do so.

A tenant may terminate a lease by application to court if:

• the leased property is not in compliance with the terms of the lease or is not fit for its intended use;
• the landlord has not carried out capital repairs of the property where obligated to do so. With respect to residential leases (as opposed to commercial or other leases), a landlord may terminate a residential lease by application to court if the tenant fails to pay rent for six consecutive months (unless the lease agreement provides a longer time period), or destroys or damages the property;
• A landlord may terminate a lease by application to court with a two months notice, if he needs the property for personal use;

The landlord may demand the termination of a residential lease agreement if the tenant, after a demand to stop, continues to use the property contrary to its intended use or systematically breaches rights of the neighbors.
A lease agreement may further be unilaterally terminated by either party either on a ground specially agreed by the parties, or in case of a material breach of the lease agreement by the other party.

How effective is the Ukraine’s legal system?

Ukraine does not have special tribunals for hearing disputes under lease agreements. Lease disputes involving business entities are handled by commercial courts, and those involving at least one individual are handled by the general courts.

In commercial courts disputes by law should be decided within two months (three months in exceptional cases) after their acceptance by the court. In reality this requirement is often not observed, and cases drag on for many months and even years.

As to proceedings in general courts, the law does not set any time limit on their duration. In practice lease disputes in such courts may last from one to three months, and in some cases even longer.

Uncontested claims in general courts may be resolved pursuant to a summary proceeding. This may be used for instance for the recovery of overdue rent. Under this proceeding the debtor is not summoned to the court, and the court order is issued within three days after the court’s hearing the case. But the court order does not take effect until after the debtor has reviewed the order and if he does not contest it within three days of receipt. If the court determines that a dispute is involved, the claim for summary enforcement is rejected and the creditor may bring a regular court action.

Effectiveness of law

Legislation

The landlord and tenant relationship is governed by the following main laws: the Civil Code of Ukraine (2003); the Land Code of Ukraine (2001); and the Law of Ukraine “On the Lease of Land” (1998).

The Civil Code of Ukraine sets out the principles of law applicable to all contracts, including leases of land and of other immovable property. In Ukrainian law leases belong to the area of contract, not property. Specifically, a lease is a variety of the contract of rent, which encompasses all transfers for temporary use for a fee of movable or immovable property.

Rules relating to the formation, validity and performance of lease agreements are set out in the general part of the Civil Code dealing with rules applicable to all types of contracts. The specific regulation of leases is contained in the part of the Civil Code regulating the contract of rent. In that part the Code first establishes the general rules applicable to all rent contracts, and then proceeds to separately regulate contracts for the lease of land, buildings and residential property.

The Land Code generally governs all matters related to the creation, transfer and termination of all - public and private - rights in land. In the Land Code land leases are treated as a method of acquisition of use rights over land. The main focus of the Land Code as concerns land leases is on the procedure for the allocation of state-owned land to individuals and private firms under lease agreements.

The Land Lease Law, enacted before the Civil Code and the Land Code in response to a need to regulate growing land transactions, supplements the Civil and Land Codes in that it regulates issues not expressly addressed in the Civil and Land Codes or expands on their provisions.

The major weakness of all the above enactments appears to be the overly general character of most of their provisions, making their application uncertain in the absence of sufficient court practice applying them. Further the Land Code’s provisions in particular seem to be unduly restrictive and cumbersome, especially as regards the leasing of state-owned land.

Brief History: Recent changes in Ukraine’s landlord and tenant law

Leases of immovable property, especially of land, were of limited application while Ukraine was part of the Soviet Union. Although the Ukrainian Civil Code of 1964 did provide for the agreement of rent, its application was almost exclusively limited to movable property.

In the Soviet Union all land was owned by the state, and land plots were assigned for use permanently or for fixed time periods to state organizations, enterprises (including collective farms) or individuals.

State enterprises and organizations did not own other kinds of immovable property, such as buildings, which were also in state ownership and assigned to state organizations and enterprises for use and operation. An authorized state agency could at any time take a building from an organization without compensation and transfer it to another entity.

As regards private persons the state could grant to individuals use rights to small land plots (typically for up to 0.06 ha) for gardening purposes. Rights to such land plots were more secure than those of state organizations, but still fell well short of full ownership.

As to residential properties, two forms of individual occupancy prevailed. First, city residents were mostly provided with state-owned apartments such that persons registered as official occupants in such apartments in fact if not in right acquired inheritable occupancy rights to them. Although the arrangement resembled a permanent lease in that it involved periodic payments to the state, it was based on a unilateral decision of the relevant housing authority rather than agreement. Second, many individuals lived in so-called service apartments provided by state organizations that employed them. Their occupancy was conditional on continued employment, the termination of which terminated occupancy rights.

In 1991 Ukraine adopted the Land Code, which permitted various forms of land leases, and in 1992 the law “On the Leasing of Assets of State Enterprises and Organizations”, which allowed state enterprises and organizations, subject to the consent of responsible state agencies, to lease out state-owned assets held by them to third parties. Also 1992 saw the passing of the law “On the Privatization of the State Housing Stock”, which over time brought about a gradual transfer of the bulk of state-owned apartments into private ownership of their occupants and thus created conditions for a sharp rise in residential leases.

As in time the 1991 Land Code proved inadequate in the regulation of land leases, it was supplemented in 1998 by the law “On the Lease of Land”, and in 2001 was altogether replaced by the current Land Code.

Finally in 2004 the current Civil Code came into effect, which replaced the provisions on rent agreements in the 1964 Civil Code that had continued to governed leases until that time.

Buying costs are low in Ukraine

Round-trip transaction costs, i.e., the total cost of buying and selling a property, are around 5% of the property value, though this can rise to 7%. In most cases, the buyer pays all transaction costs. The agent’s commission is around 3% to 5% of the property value.
It takes about 93 days to complete the nine procedures needed to register a property.

Ukraine: Taxes and Costs
Rental Income

Rental income earned by nonresidents is taxed at double the 13% standard rate of income tax, i.e., it is taxed at 26%.

However, if the nonresident rents the property to a Ukrainian resident and it is stipulated in the contract that the income is taxed at the standard rate; the rental income of that nonresident will be taxed at a flat rate of 13%.

The law requires that rental agreements with a lessee-individual not registered as a private entrepreneur be notarized. If the lessee is a business entity, the entity is obliged to withhold standard rate tax from rent payments to a lessor-individual not registered as private entrepreneur.

When income from renting real estate is declared, the amount declared cannot be lower than minimum rental fee determined according to the methodology established by the Cabinet of Ministers of Ukraine, though the declared amount may of course be higher (if the real contractual rent is higher).

Monthly land tax is payable by the owners or users of land. The rate depends on the nature and location of the land.

Corporate Route

Companies earning profits from renting real estate are taxed at the standard corporate tax rate of 25%. All expenses incurred by entities in respect of their business activities are deductible for corporate tax purposes. Repair or renovation costs may be depreciated. However, limited amounts of expenses related to fixed asset repairs or renovation (up to 10% of the book value of a building) can de deducted immediately for tax purposes.

VAT

Leasing a building, premises and land is subject to standard VAT at 20%.

Depreciation

Quarterly depreciation charges are computed on the basis of the reducing-balance method. Buildings purchased prior to 1 January 2004 are depreciated at 1.25%, while buildings purchased after 1 January 2004 are depreciated at 2%.

Withholding tax

A 15% withholding tax applies to interest and rental income.

Capital Gains Tax

Capital gains realized from sale of real estate are treated as an ordinary income and are taxed at the standard rate of 26% for nonresidents. The taxable gain is computed as selling price less the acquisition cost of the property.

Capital gains earned from sale of real estate property in Ukraine until December 2006 are exempt from capital gains tax.

On track for growth

A former Soviet republic, Ukraine has a population of 48 million and GDP per capita of US$2,021, the second lowest in Europe.

Economic growth has recently been strong. Average growth was 7.9% annually between 2000 and 2005. This is a dramatic turnaround, because after Ukraine’s independence in 1991, it experienced no economic growth until 2000.

The growth spurt from 2002 to 2004 was largely attributable to a surge in steel exports to China. Growth of 5.4% is forecast for 2006.

Yet political instability during the past couple of years has been restraining structural reforms.

After fraud-ridden elections in late 2004, the previous corrupt government was voted out. But alas, the current leadership has failed to implement the changes desired by most Ukrainians: the elimination of cronyism, and the clear separation of business from politics.

Ukraine is vulnerable to Russian pressure. It imports 85% of its annual energy requirements, particularly natural gas. A dispute with Russia regarding pricing led to a temporary gas cut-off. By agreement, from January 2006 Ukraine’s gas payments to Russia almost doubled.

Interest rates are still high. For 5-year mortgage loans in April 2006 the rates were: 12% for Euro, 13.5% for US$, and 18.2% for the local currency (AUH).

The source: Construction Ukraine