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Print articleReal Gains in Romania
November, 2007 - Francisc Peli, Partner
In recent years, Romania witnessed a continuously growing real estate market, along with a sustained rush of investors, including many foreign ones, eager to secure prime locations for their future development projects.
On such a rapidly expanding market, it has been difficult at times to implement sophisticated real estate projects, as the country’s legal framework in the area of real estate did not change overnight, despite Romania’s recent accession to the EU.
Romanian legislation and caselaw have successively changed in order to accommodate the indecisive governmental policy with respect to reparation of abuses of the communist regime before 1989 through a policy of real estate restitution. As new governments replaced prior ones for the past 18 years, proposed solutions to restitution problems underwent constant changes. As such, the process of acquiring desirable properties in Romania carried potential legal risks related to title to such properties.
There is, however, a pattern that emerges in relation to legal risks attached to prime locations for real estate developments: these locations tend to be large sites within city limits that have been expropriated from former entrepreneurs during the communist regime and transferred in the 1990’s to state-owned companies (subsequently privatised). Until 2001, former owners did not have the right to claim back such properties under special restitution laws. However, in 2001, changes in the legal framework reopened the debate and created further restitution opportunities to former owners.
Thus, at the present time, any owner of land acquired via privatization of formerly state-owned companies faces potential restitution claims from former owners, based either on the special restitution regime set forth by Law no. 10/2001 (special restitution), or on the general principles of the Romanian Civil Code, which allows any person who claims entitlement to a property to initiate legal action against the current owner (civil code restitution).
In February 2001, Law no. 10/2001 was passed, giving former owners the right to claim their expropriated assets according to a special restitution regime, which imposed certain limitations to in kind recovery of such assets, e.g.: petition for restitution could only be filed up to February 14, 2002; compensation was awarded in cash instead of in kind restitution; purchasers who had acquired expropriated assets directly or indirectly from the State could raise a good-faith defense in court in order to defeat such a claim.
As a result, this much-awaited special restitution regime that purported to promote in kind restitution, had so many exceptions that, in the case of large, prime properties within city limits, it became the norm to compensate the former owners by other means, thus rendering them powerless. This practice was condoned by local courts.
In order to claim their right to recovery in kind of their assests, former owners filed claims with the European Court of Human Rights (ECHR), disputing the application of Law no. 10/2001.
Following several decisions whereby the Romanian State was found responsible for breaching the European Convention of Human Rights due to the manner of dealing with the restitution process (i.e. by condoning unfair compensation over restitution in kind of the expropriated assets), and in order to avoid further ECHR criticism, the Romanian local courts changed their approach to this issue dramatically. Romanian courts misinterpreted ECHR’s decision that former owners are entitled to fair treatment as a message imposing prevalence of in kind restitution.
As a result, starting mid-year of 2006 there has been a trend in the practice of Romanian courts to disregard the specific limitations to restitution in kind prescribed by Law no. 10/2001; and to validate instead claims of former owners initiated via civil code restitution by ordering restitution in kind of expropriated assets, irrespective of any defenses (e.g. good-faith acquirer/good-faith constructor’s defense) raised by persons who have acquired such property by various means from the Romanian State or from state-owned enterprises.
The relatively extended protection granted to investors under Law no. 10/2001 (as subsequent acquirers of land previously granted to state-owned companies privatized in the past 15 years) has currently been significantly diminished by courts’ rulings on restitution claims based on civil code restitution only. In this context, the real estate developers’ defenses to claims over their assets (if and when applicable – as there is no general rule that each and every property is subject to a restitution claim) are limited.
At least in this specific case, the old concept of protecting the former owner, as prescribed by the Civil Code and embraced by the courts, needs to be assessed in conjunction with the requirements of a growing, dynamic and more sophisticated real estate market, as it exposes developers to greater concerns and risks. The language of the Civil Code (as opposed to Law no. 10/2001) creates real concern for developers, as it imposes no time limit for filing the restitution claim; it gives preference to the “original” ownership title (i.e. title acquired prior to expropriations conducted during the communist regime) over any subsequent property acquisition; it awards little credit to good-faith acquirers irrespective of their due diligence.
In all fairness, Romanian courts developed over time a doctrine of protecting the “general economic interest” of the Romanian society. According to this doctrine, a judge should assess the damage to the general economic interest if a straight forward restitution is granted by disregarding investments in a certain property and/or capacity to complete investment in its inception phase at date of restitution. However this doctrine is not recognized by any current legislation and gives limited comfort to an investor contemplating a multimillion euro project.
Romania’s lack of coherent legislation and inconsistent court decisions with respect to real estate transactions can be resolved if Romania’s High Court of Justice takes a clear position on this matter. Romania’s General Prosecutor has recently taken a necessary and constructive step in this direction by publicly requesting that the High Court of Justice issue a guideline designed to end the courts’ practice of deciding restitution claims under the Civil Code only without taking into consideration the special restitution system of Law no. 10/2001. Should this attempt be successful, Law no. 10/2001 would be reinstated as the governing legislation with repect to restitution of assets to former owners and the courts would be obligated to abide by it. This can only happen after the deficiencies in Law no. 10/2001 found by ECHR will be remedied. However, what the ECHR seems to suggest in its decision is that the problem in Romania is not issuing a decision, but rather implementing it. If this happens, there will definitely be a reconfiguration in the assessment of the overall risk of developing real estate projects in Romania.
A more efficient and financially sound indemnification system should be implemented with respect to indemnification to the former owners. To this end, new amendments were brought to Law no. 10/2001 in 2005, based on which the “Proprietatea” Fund was established.
Should restitution in kind no longer be possible, former owners would be compensated through granting of shares in this (to be) publicly traded Fund. However, any proper implementation of the indemnification system relies on the shares in the Fund being publicly traded on the market so as the rating of the shares could be deemed as sufficient and reasonable compensation for former owners.
Until these suggested changes will be implemented, developers should approach real estate investment in Romania with a mix of welcomed enthusiasm and old-fashioned caution; and should assess the potential legal hurdles attached to the specific investments they contemplate.
On such a rapidly expanding market, it has been difficult at times to implement sophisticated real estate projects, as the country’s legal framework in the area of real estate did not change overnight, despite Romania’s recent accession to the EU.
Romanian legislation and caselaw have successively changed in order to accommodate the indecisive governmental policy with respect to reparation of abuses of the communist regime before 1989 through a policy of real estate restitution. As new governments replaced prior ones for the past 18 years, proposed solutions to restitution problems underwent constant changes. As such, the process of acquiring desirable properties in Romania carried potential legal risks related to title to such properties.
There is, however, a pattern that emerges in relation to legal risks attached to prime locations for real estate developments: these locations tend to be large sites within city limits that have been expropriated from former entrepreneurs during the communist regime and transferred in the 1990’s to state-owned companies (subsequently privatised). Until 2001, former owners did not have the right to claim back such properties under special restitution laws. However, in 2001, changes in the legal framework reopened the debate and created further restitution opportunities to former owners.
Thus, at the present time, any owner of land acquired via privatization of formerly state-owned companies faces potential restitution claims from former owners, based either on the special restitution regime set forth by Law no. 10/2001 (special restitution), or on the general principles of the Romanian Civil Code, which allows any person who claims entitlement to a property to initiate legal action against the current owner (civil code restitution).
In February 2001, Law no. 10/2001 was passed, giving former owners the right to claim their expropriated assets according to a special restitution regime, which imposed certain limitations to in kind recovery of such assets, e.g.: petition for restitution could only be filed up to February 14, 2002; compensation was awarded in cash instead of in kind restitution; purchasers who had acquired expropriated assets directly or indirectly from the State could raise a good-faith defense in court in order to defeat such a claim.
As a result, this much-awaited special restitution regime that purported to promote in kind restitution, had so many exceptions that, in the case of large, prime properties within city limits, it became the norm to compensate the former owners by other means, thus rendering them powerless. This practice was condoned by local courts.
In order to claim their right to recovery in kind of their assests, former owners filed claims with the European Court of Human Rights (ECHR), disputing the application of Law no. 10/2001.
Following several decisions whereby the Romanian State was found responsible for breaching the European Convention of Human Rights due to the manner of dealing with the restitution process (i.e. by condoning unfair compensation over restitution in kind of the expropriated assets), and in order to avoid further ECHR criticism, the Romanian local courts changed their approach to this issue dramatically. Romanian courts misinterpreted ECHR’s decision that former owners are entitled to fair treatment as a message imposing prevalence of in kind restitution.
As a result, starting mid-year of 2006 there has been a trend in the practice of Romanian courts to disregard the specific limitations to restitution in kind prescribed by Law no. 10/2001; and to validate instead claims of former owners initiated via civil code restitution by ordering restitution in kind of expropriated assets, irrespective of any defenses (e.g. good-faith acquirer/good-faith constructor’s defense) raised by persons who have acquired such property by various means from the Romanian State or from state-owned enterprises.
The relatively extended protection granted to investors under Law no. 10/2001 (as subsequent acquirers of land previously granted to state-owned companies privatized in the past 15 years) has currently been significantly diminished by courts’ rulings on restitution claims based on civil code restitution only. In this context, the real estate developers’ defenses to claims over their assets (if and when applicable – as there is no general rule that each and every property is subject to a restitution claim) are limited.
At least in this specific case, the old concept of protecting the former owner, as prescribed by the Civil Code and embraced by the courts, needs to be assessed in conjunction with the requirements of a growing, dynamic and more sophisticated real estate market, as it exposes developers to greater concerns and risks. The language of the Civil Code (as opposed to Law no. 10/2001) creates real concern for developers, as it imposes no time limit for filing the restitution claim; it gives preference to the “original” ownership title (i.e. title acquired prior to expropriations conducted during the communist regime) over any subsequent property acquisition; it awards little credit to good-faith acquirers irrespective of their due diligence.
In all fairness, Romanian courts developed over time a doctrine of protecting the “general economic interest” of the Romanian society. According to this doctrine, a judge should assess the damage to the general economic interest if a straight forward restitution is granted by disregarding investments in a certain property and/or capacity to complete investment in its inception phase at date of restitution. However this doctrine is not recognized by any current legislation and gives limited comfort to an investor contemplating a multimillion euro project.
Romania’s lack of coherent legislation and inconsistent court decisions with respect to real estate transactions can be resolved if Romania’s High Court of Justice takes a clear position on this matter. Romania’s General Prosecutor has recently taken a necessary and constructive step in this direction by publicly requesting that the High Court of Justice issue a guideline designed to end the courts’ practice of deciding restitution claims under the Civil Code only without taking into consideration the special restitution system of Law no. 10/2001. Should this attempt be successful, Law no. 10/2001 would be reinstated as the governing legislation with repect to restitution of assets to former owners and the courts would be obligated to abide by it. This can only happen after the deficiencies in Law no. 10/2001 found by ECHR will be remedied. However, what the ECHR seems to suggest in its decision is that the problem in Romania is not issuing a decision, but rather implementing it. If this happens, there will definitely be a reconfiguration in the assessment of the overall risk of developing real estate projects in Romania.
A more efficient and financially sound indemnification system should be implemented with respect to indemnification to the former owners. To this end, new amendments were brought to Law no. 10/2001 in 2005, based on which the “Proprietatea” Fund was established.
Should restitution in kind no longer be possible, former owners would be compensated through granting of shares in this (to be) publicly traded Fund. However, any proper implementation of the indemnification system relies on the shares in the Fund being publicly traded on the market so as the rating of the shares could be deemed as sufficient and reasonable compensation for former owners.
Until these suggested changes will be implemented, developers should approach real estate investment in Romania with a mix of welcomed enthusiasm and old-fashioned caution; and should assess the potential legal hurdles attached to the specific investments they contemplate.
