CIS Legal Update - September 2013: Recent Developments of Russian Court Practice on Lease of Real Estate

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The Supreme State Commercial Court of the Russian Federation (the "Supreme State Commercial Court") issued Decree No. 13 (the "Decree") on 25 January 2013 clarifying certain issues relating to lease agreements. The Decree offers a business-friendly approach when resolving disputes over lease agreements and unifies the position of Russian courts with respect to such matters. Below is the summary of key clarifications, along with our comments and recommendations in light of the Decree.

Improper definition of leased property

Under Russian law, a lease agreement is deemed not concluded unless the leased object is clearly defined therein.

The Decree says that if the object of the lease is not properly defined, but the lease agreement is actually being performed by the parties (i.e. there is no dispute with respect to the proper transfer of the property to the lessee), then the parties may not claim this agreement as not concluded or invalid on the ground that the property being leased is insufficiently defined. This clarification should help to maintain the stability of the civil turnover and prevent abuse from a party willing to break a lease based solely on the formal rule of Russian law.

Notwithstanding the above, it is recommended to pay more attention to the accuracy of describing in the lease agreement (either textually or graphically) the property to be leased. This should mitigate the risk of potential disputes associated with such agreement.

Absence of title to the property

Prior to the issuance of the Decree, the majority of Russian courts considered lease agreements in respect of the property to which the lessor had no title at the time the agreement was concluded (e.g. the property to be leased had not been acquired by the lessor yet or lessor’s title to it had not yet been registered, etc) as invalid.

The Supreme State Commercial Court has now clarified its position, concluding that such lease agreements generally comply with Russian law. However, the lessor must have the title to the property at the moment of the actual transfer of the property to the lessee. Otherwise, the lessor must reimburse the lessee for all losses resulting from the breach by the lessor of the obligation to transfer the property with good title to the lessee.

Absence of commissioning permit

With respect to the conclusion of lease agreements concerning objects of capital construction prior to their being commissioned, the Supreme State Commercial Court has clarified that such lease agreements may be concluded before the issuance of the commissioning permit. However, under Russian law, both the lessor and the lessee may be subject to administrative liability in the form of an administrative fine for operating objects of capital construction without a commissioning permit. Therefore, it is recommended that the property is actually transferred to the lessee for use (i.e. the transfer and acceptance act is signed) after receiving the commissioning permit.

Fit-out

In practice, lessors usually provide lessees with access to leased objects before they are commissioned for fit-out or repair works on the basis of preliminary lease agreements, whilst the main lease agreements are concluded after the commissioning of the object.

The Supreme State Commercial Court clarifies that the transfer of a leased object under the main lease agreement to the lessee for fit-out or repairs prior to its commissioning complies with Russian law.

However, conclusion of the main lease agreement for the purposes of gaining access to the object for its fit-out before it is commissioned does not provide a sufficient legal ground for effecting payments for the use of such object.

Absence of state registration of lease agreement

Under Russian law, certain lease agreements may not be deemed concluded unless they are state registered (e.g. agreements on lease of real estate for a term of one year or more). As a result, parties may not use any legal remedies provided by such a lease agreement unless it is registered.

According to the Decree, if a lease agreement requiring state registration under Russian law has not been registered, but the parties have agreed on all principal terms and conditions in the proper legal form and such agreement is actually being performed by the parties, then the rent shall be paid in accordance with the terms of lease agreement, despite the fact that it is not state registered. Any penalties that may accrue under such agreement are to be paid by the lessee.

However, such lease agreements do not provide the parties to it with special rights or preferences over third parties. For example, irrespective of the general provisions of Russian law, the lessee under an unregistered lease agreement will not have a priority right for the conclusion of the lease agreement for a new term.

Rent

Further to recent ambiguous practices with respect to changing rent rates, the Decree states that the rent rate may be changed by the parties more than once per year, even if it is not directly provided for by the lease agreement.

This rule does not apply to the unilateral adjustment of the rent by the lessor, which may only take place once per year. Furthermore, if the lessor increases the rent to a rate significantly higher than the average market rates (i.e. abuses its right to change the rent rate), then it will not be able to claim from the lessee the amount of rent exceeding the average market rates. This clarification strengthens the legal position of the lessee, given that prior to the issuance of the Decree, lessors abused their right to increase the rent rate by making it unjustifiably high, which provoked numerous disputes initiated by the lessees.

In addition, the Supreme State Commercial Court states that if a lessee fails to pay the rent twice in succession, the lessor is entitled to demand the termination of the lease agreement – even if the outstanding sum has been paid by the lessee before the lessor’s demand to terminate – provided that such a claim is made within a reasonable period of time of the date of that payment. Given that the exact time period for presenting such claim is not specified, it is recommended that lessors demand the termination of a lease agreement at the earliest possible date following payment of the outstanding sum by the lessee.

Unauthorised lease

A lessee’s bad faith conduct has been one of the problems occurring in practice in the Russian real estate sector. To avoid paying rent, lessees have claimed that their lease agreements are invalid on the grounds that the lessors had no title to the leased property, among other things. In order to address this issue, the Supreme State Commercial Court has provided that such arguments should not be taken into account by the court.

The Supreme State Commercial Court clarifies that a lessor lacking title to a property that is being leased may be sued for the recovery of income received, or which should have been received, for the entire term in which the lessor was aware or ought to have been aware of its unauthorised lease of the property. Such a claim may also be brought against the lessee who was aware of the fact that the lessor had no title when the lease agreement was concluded. In the latter case, the liability of the unauthorised lessor and the lessee shall be joint and several, i.e. such parties shall share a single liability and a claim may be brought against any one of them.

Several leases in respect of one property

To simplify the process of protecting the interests of the lessees under several lease agreements in respect of the same property, the Supreme State Commercial Court clarified the following. If one and the same property is leased simultaneously to a number of lessees (but may actually be used only by one lessee), the lessor shall reimburse those lessees who had not received the property, and therefore may not use it, for all losses resulting from the lessor’s failure to transfer the leased property and shall pay a respective penalty set out in the lease agreements. Therefore, lessees should aim to include in the lease agreement a penalty for the lessor's breach of its obligation to transfer the property to the lessee.

Fee for the right to conclude a lease agreement

As a general rule, if a lease agreement regarding state or municipal property is concluded at an auction, the lessee should pay for the right to enter into such lease agreement. However, in practice, the state and municipal authorities try to receive the above payment even in cases where the lease agreement is not concluded at an auction.

The Supreme State Commercial Court emphasizes that in cases where no auction has been held for the right to enter into a lease agreement in respect of state or municipal property in accordance with Russian law, provisions within such agreements addressing the lessee’s obligation to pay an additional fee for the right to enter into the respective agreement are invalid.

This clarification strengthens the legal position of those lessees who are considering claiming back the amounts paid for the right to enter into the lease agreement in respect of state or municipal property for which no auction was held.

Title to unfinished construction

Under Russian law, documents that provide evidence attesting to the developer’s rights to the land plot underlying the constructed object must be presented to the registration authorities for the state registration of the title to such object. Based on this legislative provision, the registration authorities have refused to register titles to unfinished construction if the lease agreements in respect of the underlying land plots had expired before the application for state registration was filed.

According to the Decree, the expiration of the lease to a land plot, upon which an unfinished construction was built during the term of the lease, shall not impede the registration authorities from granting state registration of the title to the unfinished construction.

Topics:  Commercial Leases, Land Titles, Leases, Permits, Registration, Rent, Russia

Published In: General Business Updates, Commercial Real Estate Updates, Zoning, Planning & Land Use Updates

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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