Anne Sofie Bjørkholt, BAHR
In this article, Anne Sofie Bjørkholt at BAHR discusses the legislative framework in the Norwegian real estate sector.
The market for both the sale and purchase, and the lease, of commercial real estate in Norway is from a legal perspective characterised by the important role of background legislation and the broad use of industry standards as a basis for negotiated agreements.
Most of the background law can be waived in agreements between professionals. However, background legislation will be used to fill in unregulated areas in the agreements, and will also affect the interpretation of the wording of an agreement. Norwegian contracts for both the sale and purchase, and the lease, of real estate are less comprehensive than their equivalents in, eg, Anglo-American jurisdictions.
Most contracts for both sale and purchase, and for lease, are based on industry standards, though with individual adjustments as a result of negotiations. Key real estate organisations such as the Real Estate Agents Association and the Landlords Association, together with BAHR (among others), issue a set of standard agreements for both leases and the sale of property every two to three years, in accordance with market practice, legislative amendments, etc. These standards are used as a basis for 80–90 per cent of all leases and real estate transactions.
Capital gains on a corporate shareholder’s sale of shares in a limited liability company are tax-free for a corporate shareholder. This is in contrast to the sale of assets that are taxable at 23 per cent of the gain. In addition, a share deal will assume no stamp duty on the property, as opposed to a real estate asset deal. Stamp duty is 2.5 per cent of the market value of the property. Thus, around 90 per cent of commercial real estate transactions are carried out through the sale of the shares in property-owning companies, known as single purpose vehicles (SPVs).
Having said that, there are also a considerable number of real estate transactions structured differently – as asset sales or through the sale of a stake in general, limited and silent partnerships.
The seller and the purchaser agree on the property value that forms the basis for the calculation of the purchase price of the shares in the target company.
The purchase price is normally calculated as follows:
property value with the addition of:
The rationale behind the latter deduction is that in a share deal, the buyer does not obtain a step up in the tax basis for the property, but takes over the tax basis in the target company. Thus, the buyer will not be able to depreciate with tax effect the difference between the agreed property value and the tax basis in the target company.
There is no depreciation on the land, but the building can be depreciated by 2 per cent and 10 per cent on the fixed technical installations (lifts, ventilation system, etc). Often, these will amount to around 40 per cent of the total tax value for a newly constructed building. Warehouses, hotels, etc, are depreciated by 4 per cent on the building and 10 per cent on technical installations.
The net present value of the lower depreciation can be calculated individually, but is normally defined as a lump sum being around 9 per cent of the difference between the agreed property value of the building and the basis for tax depreciations. This is the case if the building is depreciated by 2 per cent annually. For a building depreciated by 4 per cent annually the deduction is normally agreed at 12-15 per cent. The lump sum equals the percentage reached by using a discount rate of 6 per cent, and assuming a 60-40 split between building and technical installations. The market value of the land is subject to discussions/negotiations, but is often agreed as being 20–30 per cent of the property value for properties in central areas.
Under Norwegian market practice, the buyer is thus not compensated for the full latent capital gains tax on the property, ie, the total tax saving for the seller. Such compensation would have equalled the net present value of 23 per cent of the difference between the taxable value of the building and land, and the agreed property value, discounted over the gain and loss account by 20 per cent each year (declining balance method). The rationale behind this market practice is that the market assumes that the buyer will also sell the property as a share deal, and assumes that the tax rules will stay in force, ie, that the buyer will trigger no capital gain on the later sale. Given the prevailing tax rules, it will normally not be an option for the buyer to sell the property as an asset deal as the full latent tax will be triggered.
The standard sale and purchase agreements cover direct sale of property, sale of shares in a property-holding limited company and the sale of interests in a property-holding partnership (general, limited and silent partnership).
With regard to defects, warranties and indemnities, one should note the following.
The standard agreements contain a so called “as is” clause, implying that the buyer takes the risk on the quality of the property and shares. The buyer is entitled to conduct a due diligence review before the purchase; but if any hidden defects are discovered after the purchase, the buyer as a main rule has no recourse against the seller – unless the seller has failed to disclose information or given incorrect information.
The standard contracts contain basic warranties, such as:
Further, the buyer will usually require certain warranties or indemnities, covering special risk factors identified through the due diligence process.
The warranty period is normally one year after closing. However, the time limit is usually three years for breaches of warranties that comprise the target company’s ownership of the property, and the seller’s ownership and right to sell the shares in the target company, as well as warranties related to the company’s tax and VAT liabilities and documentation related thereto.
Claims regarding defects or warranties are subject to caps, baskets and thresholds. Normally, the cap will be around 10 per cent of the property value. The buyer’s right to revoke the contract in case of significant defects or serious breach of warranties will, however, rarely be waived, and will thus serve as a safety net for a buyer if the loss exceeds the agreed cap.
The Landlord and Tenant Act of 1999 (the Tenancy Act) regulates leases of real estate in Norway and also constitutes the background legislation for leases of commercial property. The Tenancy Act contains a set of rules primarily protecting a (residential) tenant’s interest based on the legislator’s view of a tenant being the lessor’s subordinate, and thus having a stronger need for protection than the (presumably) professional lessor. Professionals are entitled to derogate from most of the provisions in the Tenancy Act.
There are standard lease agreements for: newly built or refurbished properties/premises; as-is properties/premises; and triple net leases for properties.
There are two versions of the agreement for newly built or refurbished properties/premises: one where the lessor shall deliver the lease object in accordance with the agreed requirement specifications; and one where the tenant has an extensive right to require alterations during the construction period. This latter version is widely used in major new-build projects. The tenant’s right to require alterations presupposes that the lessor is entitled to require the same changes/additions from its contractor under the construction contract for the new building, and that the tenant bears all costs related thereto.
Responsibilities for technical building and construction requirements are as follows:
Maintenance obligations: According to the standard as-is agreement and the new-build agreements, the tenant is responsible for indoor maintenance, while the lessor is responsible for replacements and outdoor maintenance. It is also the lessor’s responsibility to see that the leased object meets with all public requirements, unless these requirements are a result of the tenant’s business. Under the triple net standard, the tenant is responsible for all indoor and outdoor maintenance, as well as replacements.
Duration: The normal lease term for commercial properties is 10 or 15 years fixed term for new premises, often combined with options to renew on the same terms for five or 10 years, and three to five years for smaller premises. Lease agreements with the state or a municipality normally have a somewhat longer term than leases with private parties, but they are rarely more than 20 years.
Sub-lease and assignment: As regards fixed-term leases, the tenant normally has the right to sub-lease for the remaining period subject to the lessor’s approval, which cannot be unreasonably withheld. Assignment of the lease agreement is usually subject to the lessor’s approval, which can normally be freely withheld.
Termination: A commercial lease agreement cannot, as a rule, be terminated during the lease term. However, the tenant is normally entitled to terminate the lease agreement by force majeure events.
In triple net leases, the tenant often waives the right to terminate the lease agreement in the event of serious damage or destruction; however, combined with an obligation for the lessor to provide a substitute lease object during the reconstruction period.
Rent: The rent is normally a fixed amount and subject to annual adjustments in accordance with 100 per cent of the changes to the consumer price index. For retail properties, a turnover-based rent is widely used, but often combined with a minimum rent.
Under the Tenancy Act section 4-3, after a lease period of 30 months both parties may require, without terminating the lease agreement, that the rent is fixed at the “current level” of rent for similar properties on similar contractual terms, provided there have been no other changes in the rent than indexation. This rule is, however, derogated from in most commercial lease agreements, including the standard agreement. If not, it is considered a “red flag” finding in a legal due diligence review.