Shared construction: risks and guarantees

Recommendation points

• What is equity construction
• Why is equity construction profitable?
• Equity construction risks
• Guarantees provided by an agreement on participation in shared construction
• How to protect yourself from various risks when participating in shared construction

What is equity construction

On December 30, 2004, the Federal Law “On participation in shared construction of apartment buildings and other real estate objects and on amendments to some legislative acts of the Russian Federation” came into effect. The settlement of public relations arising in the process of attracting funds from individuals for shared construction was a challenge of the time and, first of all, had to protect the rights, interests and property of those who invest in shared construction, that is, equity holders.

Based on the norms of the above law, shared construction is a type of construction based on an agreement on participation in shared construction. An agreement on participation in shared construction is an agreement under which one party (the developer) undertakes to build an apartment building within a certain period of time and transfer it to a participant in shared construction after receiving permission for commissioning, and the other party (a participant in shared construction) undertakes to pay as provided for by the contract price and accept the constructed object.

As you can see, the law defines two parties to the agreement on participation in shared construction: the developer and the participant in shared construction.

A developer is a legal entity that is the owner or lessee of a land plot and attracts funds from participants in shared construction for the construction of apartment buildings or other non-production real estate on this land plot. A participant in shared construction (popularly – a shareholder) is an individual or legal entity who has provided funds to the developer for the construction of an apartment building in order to obtain ownership of the constructed object after its commissioning.

In fact, a participant in shared construction is an investor, and the agreement on participation in shared construction is an investment agreement, however, to protect the rights of participants in such an agreement, it is regulated by a separate law, and not by the general rules of the Civil Code on an investment agreement. The essential terms of the equity participation agreement are:

1. The object of the contract (a specific object must be determined according to the project documentation, which, after receiving permission to enter an apartment building into operation, will be transferred to a participant in shared construction).
2. Deadline for transferring an object to a participant in shared construction.
3. Contract price and procedure for its payment.

An agreement on participation in shared construction is concluded in writing and is subject to mandatory state registration. In practice, shared construction is carried out as follows: a developer (construction company) buys or leases a land plot for the construction of an apartment building, concludes agreements on participation in shared construction with equity holders; Shareholders pay, often in installments, the cost of the apartment stipulated by the contract and after putting the house into operation they receive it.

Why is equity construction profitable?

For many residents of Russia, shared construction is almost the only real way to get their own apartment, since the market price of real estate is unaffordable for most Russians, and bank lending involves a significant overpayment for an apartment, due to too high interest rates, besides, after the global financial crisis, public confidence in banks and loans are close to zero. Shared construction allows you to buy an apartment at a relatively low price, because after the commissioning of an apartment building, the cost of apartments in it increases significantly, moreover, in most cases, payments are deferred until the completion of construction.

The disadvantage of shared construction is that a participant in shared construction can receive his apartment only after the completion of construction, while buying an apartment on credit, you can immediately move into it, but the final cost of an apartment in the first and second cases is simply incomparable.

Equity construction risks

Before the adoption of the Federal Law “On Participation in Shared Construction of Apartment Buildings and Other Real Estate Objects and on Amendments to Certain Legislative Acts of the Russian Federation,” shared construction as a phenomenon in Russia had existed for a long time. It was carried out mainly on the basis of investment agreements or agreements on joint activities. The mechanisms of cooperation between the shareholder and the developer provided for by these agreements could not fully cover all aspects of such legal relations, which is why the rights of investors (that is, equity holders) were not sufficiently protected, and this became an excellent ground for the activities of unscrupulous developers. The law on participation in shared construction provided due guarantees to participants in shared construction, protecting them from the arbitrariness of developers, so developers who wanted to have more rights and fewer responsibilities had to look for ways to circumvent the new law. As you know, whoever is looking will always find, because the news of the next swindle also regularly appeared in the media. In most cases, developers try to clearly not overstep the letter of the law, but simply lay with citizens who want to purchase housing, not contracts for participation in shared construction, but other civil law contracts that do not guarantee the equity holders the same degree of protection. The most widespread are preliminary sales and purchase agreements and bill schemes. What is noteworthy, until recently, most construction companies, even the largest and receiving government support, worked precisely according to such schemes..

Let us briefly describe the mechanisms for implementing the so-called “gray schemes” of shared construction:

1. Conclusion of a preliminary agreement for the sale of an apartment.Instead of an equity participation agreement, a preliminary purchase and sale agreement is concluded, according to which the developer undertakes, after the construction of an apartment building, to conclude a basic agreement for the purchase and sale of an apartment with a shareholder. In this case, the ownership of the entire apartment building and its individual apartments is with the developer and passes to the shareholder after the conclusion of the main contract of sale. The legislation does not provide for the possibility of paying for such a contract, therefore developers often accept money, “reserving” it as payment for the main contract. In addition, the preliminary agreement for the purchase and sale of an apartment does not determine the date of commissioning of the facility under construction. Another vulnerability of the preliminary purchase and sale agreement is that it is not subject to state registration, which means that the developer has the opportunity to conclude several agreements for one apartment, and there have been plenty of such cases in the history of Russian shared construction.
2. Borrowing funds against a bill.In order to carry out such a loan, a preliminary sales contract is also required, to which an agreement on the purchase of a bill of exchange is added, the value of which is equal to the cost of the apartment. That is, the buyer, under a preliminary contract of sale and purchase, receives an obligation from the developer to sell him the apartment after the house is put into operation and seems to pay for this purchase in advance with a bill of exchange. However, there is actually no legal connection between the preliminary sale and purchase agreement and the purchase of the bill. Therefore, at the end of construction, the developer can pay off the bill not with an apartment, but with money, and the preliminary sale and purchase agreement remains in force, however, no funds were credited to it, which allows the developer to set a higher price in the main purchase and sale agreement (market price of an apartment in the primary market). As a result, it turns out that the shareholder simply gave the money to the developer on a loan for several years, because you can buy an apartment at a market price in any other house..

In addition to the above schemes, the risks of shared construction include the inconsistency of the quality of the constructed object with the terms of the agreement and generally accepted norms, the bankruptcy of the developer and outright fraud (for example, attracting funds from the population with subsequent “hiding” in an unknown direction), however, with careful selection of the developer, these risks can be reduced, if not to zero, then to a very low probability.

Guarantees provided by an agreement on participation in shared construction

An agreement on equity participation in construction undoubtedly provides the shareholder with more guarantees for the protection of his rights than the agreements mentioned above. Let’s describe the main of these guarantees:

1. The essential terms of the agreement on participation in shared construction are the object, price and term. This means that the developer undertakes to transfer a specific object to you on time and at a specified price. If the agreement does not contain these conditions, it may be invalidated in court. These conditions can be changed only by agreement of the parties..
2. A shared participation agreement is subject to state registration. This means that the developer will not be able to conclude several contracts at the same time for one apartment..
3. The rules for submitting quarterly reports by developers on the implementation of activities related to attracting funds from participants in shared construction, approved by Decree of the Government of the Russian Federation of October 27, 2005 N 645, guarantee state control over the construction of the facility.
4. The right to attract funds from the population (equity holders) from a developer arises only after state registration of ownership or lease to a land plot, obtaining a building permit, as well as drawing up and publishing a project declaration.
5. The developer bears the risk of accidental loss of the shared construction object prior to its transfer to the ownership of the shareholder.
6. In the event of the death of a participant in shared construction, his rights and obligations pass to the heirs.
7. When purchasing real estate through an agreement on participation in shared construction exclusively for personal and family needs, and not for entrepreneurial activity, the relations arising from the contract and not regulated by the law on participation in shared construction are governed by consumer protection legislation.
8. The guarantees of the quality of the object of the contract of shared participation in construction are set forth in Article 7 of the Law “On participation in shared construction of apartment buildings and other real estate objects”. According to the provisions of this article, the warranty period for a completed property cannot be less than five years. In the event of deviations from the terms of the contract that have worsened the quality of the object, as well as other shortcomings, the participant in shared construction has the right to demand from the developer to eliminate the shortcomings within a reasonable time (free of charge) or reduce the price of the contract, or reimburse the costs of eliminating the shortcomings.

As you can see, the Law “On Participation in Shared Construction of Apartment Buildings and Other Real Estate Objects” provides broad guarantees for the rights of equity holders, but in order to take advantage of these guarantees, you need to know your rights and pay due attention to the various terms of the agreement on participation in shared construction.

How to protect yourself from various risks when participating in shared construction

Legislation, as well as life in general, does not provide full guarantees of economic security when concluding any civil law agreements, especially investment ones. However, it is possible and even necessary to protect yourself and your well-being as much as possible from unpleasant force majeure. How can this be done?

1. First of all, it is necessary to study the Law “On participation in the shared construction of apartment buildings and other real estate objects”. Even if you ask for help from professional lawyers, it is advisable to know the basic norms of legislation in the field of shared construction.
2. Cooperate with a company that has proven itself in the construction market, with large assets, no significant debts and a clean reputation. The Law “On Participation in Shared Construction of Apartment Buildings and Other Real Estate Objects” provides for the obligation of the developer to present constituent documents, a certificate of state registration, a certificate of tax registration, financial and economic reporting, annual reports for the last three years to any person who applies, and also an auditor’s report for the last year. If there is a civic association for the protection of the rights of equity holders in your region, then a significant amount of information about the activities of construction companies engaged in equity construction can be obtained there..
3. Conclude an agreement on participation in shared construction, and not other agreements that allow the developer to circumvent the Law “On participation in shared construction of apartment buildings and other real estate objects”.
4. Check the developer’s title documents for the land plot on which construction is being conducted or will be conducted (certificate of ownership or lease agreement); make sure that the developer has a permit for the construction of an apartment building, as well as that the project declaration is properly published and (or) posted.
5. When concluding a contract, pay special attention to the object, term and price of the contract. Remember that in the absence of any of these conditions in the contract, it may be declared invalid by the court. Please note that the contract comes into effect only after state registration.