The Supreme Council will determine the amount of tax on plots for individual housing construction for closed-end mutual funds

The abolition of the reduced rate (0.3%) of land tax for plots for individual housing construction (IHC) used in business activities has led to new disputes in practice. In 2023, commercial organizations were denied the benefit, but the question arose whether this position applies to closed mutual funds, which are not even a legal entity. Tax officials believe that the rate should be standard – 1.5%. Arbitration courts supported the benefit for the fund, but now the Supreme Court (SC) will consider the case. Lawyers consider it possible to apply a reduced rate if the transfer of land to a closed mutual fund serves as a way to preserve an asset rather than make a profit.

The Supreme Court will figure out at what rate closed-end mutual funds must pay tax on plots for individual housing construction that are part of them. An important decision for practice will be made within the framework of the dispute between the closed mutual fund “Mikhailovsky-Investment” and the tax authorities. Closed-end mutual fund is managed by Management Company “Universal Investments” LLC. The fund includes lands in the Moscow region that belong to the right of common shared ownership to the shareholders. These plots are classified as “land of settlements”, the type of permitted use is individual housing construction.

In 2020, the fund’s management company transferred 27 million rubles. towards payment of land tax calculated at a rate of 1.5%. But then the company decided that a reduced rate of 0.3% applies to these areas, and asked to return 20 million rubles. The tax office refused. Arbitration courts of three instances upheld the claim of the Criminal Code, obliging the company to return the overpaid tax. The courts proceeded from the fact that “the determining criterion for applying the 0.3% rate is the type of permitted use of the site and the purpose of the objects being built on it.” Since the tax authorities have not proven that the plots are used in business activities, there are no grounds for applying a rate of 1.5%, the court decisions say.

The tax inspectorate appealed this to the Supreme Court, explaining that the amendments to Art. 394 of the Tax Code since 2020 has eliminated the possibility of applying a reduced rate for plots for individual housing construction that are used in business activities. At the same time, the complaint says, “the activities of the management company in managing the mutual fund are investment activities,” and unit owners bear “the risks of losses associated with changes in the value of the property that makes up the fund.” “Since the attractiveness of shares depends on the activities of the management company, the transfer by the owner of property to the mutual fund is dictated by entrepreneurial goals,” tax officials believe. “The will of the legislator is aimed at providing state support directly to citizens.” In this regard, tax authorities do not agree with the use of benefits for the management company of closed mutual funds. The hearing of the case in the Economic Collegium of the Supreme Court is scheduled for February 21.

In the spring of 2023, the Supreme Court considered the case of Tishina LLC regarding the same land tax benefit and decided that commercial organizations can no longer use the reduced rate for their lands for individual housing construction (see “Kommersant” dated March 31, 2023). In November, the Federal Tax Service and the Ministry of Finance issued letters stating that from 2020, plots designated for individual housing construction, owned by commercial organizations, are taxed at 1.5%, even if companies are building individual housing construction projects for sale to citizens.

Pepeliaev Group partner Sergei Sosnovsky considers this position controversial, since a commercial organization does not always use the site for business purposes and can transfer it, for example, for free use to an educational institution. Moreover, the mutual fund itself does not belong to commercial organizations and formally is not even a legal entity. “A mutual fund is a form of association of property of one or more owners, transferred to a third party for trust management,” explains Taxology partner Alexey Artyukh. Accent Capital CEO Marina Kharitonova adds that “ownership of shares does not relate to entrepreneurial activity, it is similar to ownership of securities.”

However, the management company of the fund is a commercial organization, and according to the general rule, “it is assumed that, by transferring property to a mutual fund, the shareholder intends to derive income from its use,” clarifies Alexander Ovesnov, advisor to the tax dispute practice of MEF Legal. “Close-end mutual fund quite often acts as an analogue of project financing in construction and in this regard serves the purpose of making a profit,” adds Anna Zholobova, head of the real estate and construction practice at Regionservice.

Meanwhile, Mr. Sosnovsky considers it wrong to consider the activities of any mutual fund by default as entrepreneurial: “Through the mutual fund, plots could be acquired and individual houses could be built for the unit owners who live in them, and the fund continues to exist, but does not conduct activities.” “Even the law on investment funds does not directly say that a mutual fund is created specifically for the purpose of making a profit; it uses the term “management” of property, which can also be carried out for the purpose of simply saving, rather than earning money,” explains Mr. Artyukh.

General Director of the Veles Trust Management Company Dmitry Osipov notes that the Tax Code provides tax benefits, for example, for agricultural land, and such plots are included in the mutual fund, “as a rule, for storage, since they are not profitable.” Partner at Capella Investment Management Andrey Bogdanov considers it possible to apply a reduced rate for mutual funds on certain types of land for which the Tax Code provides for a benefit.

According to Mrs. Kharitonova, the mere ownership of the land in a mutual fund should not affect the tax; only the purpose of the site and its actual use are important. In this regard, Alexey Artyukh considers it correct to establish how the land is used in each specific case. But how to distribute the burden of proof in such a dispute is a complex question, Mr. Sosnovsky emphasizes. Alexander Ovesnov believes that “if a fund management company claims a benefit, it must prove that the asset is not used in business activities.”

Five Stones Consulting partner Ekaterina Boldinova notes that in practice, disputes between tax authorities and closed-end mutual funds about the tax rate are not uncommon, but this case is the first in the Economic College of the Supreme Court on the application of the 2020 amendments to mutual funds. According to Mr. Ovesnov, the likelihood of support from the Supreme Court of the tax authorities and recognition of the activities of the mutual fund management company as entrepreneurial by default is “very high.” “Then, most likely, all mutual funds will be required to pay a tax of 1.5%,” says Mr. Sosnovsky.

“Increasing payments will reduce the profitability of projects implemented through closed-end mutual funds,” notes Dmitry Yartsev, deputy general director of KSP Capital Asset Management. However, according to him, “funds in which land is part of a development project try to quickly implement the project in order to maximize profits, so an increase in the tax burden is unlikely to seriously affect the overall profitability.” “It all depends on what the cadastral value of the land is and how much it takes up in the overall construction budget and the size of the fund,” clarifies Andrei Bogdanov. “In funds that are land banks, the situation will be different, but with proper planning, the damage can also be neutralized,” believes Mr. Yartsev.

“An increase in the tax rate may affect the cost of the finished product, which will lead to higher prices,” warns Dmitry Yartsev. “There is a possibility that in the end the end buyer will pay for everything.”

Anna Zanina, Vitaly Gaidaev