TALKING TAX: New real estate investment structures in Estonia

  • 2007-01-10
  • By Konstantin Kotivnenko [ Sorainen Law Offices ]
The new amendments to the Investment Funds Act that entered into force in Estonia on Jan. 1, 2007 provide for a new structure that will facilitate real estate investments in the Baltic states.

Both foreign and domestic investments can now be administered through a real estate investment fund, which is a special type of fund. The fund can be either formed as a private limited company or as a contractual investment fund.
From the point of taxation, a contractual investment fund is more efficient.

Taxation of funds formed as public limited companies is identical to taxation of any other public limited company registered in Estonia. The distribution of the profit from the fund will be considered as a distribution of dividend and will be subject to taxation of 22/78 on the level of the fund. Furthermore, a withholding tax can be imposed if the profit distribution is made to a low-tax territory or a non-resident legal recipient holds less than 15 percent in the fund.

By contrast, with contractual investment funds the distribution of profits accumulated will not be subject to income tax in Estonia as such income is not characterized by the Estonian tax legislation.
In both types of funds the holder of the fund unit or fund share can either sell fund units or fund shares to third persons or redeem it to the fund.

If transfer of fund units or fund shares is affected, the holder, except Estonian legal entities, will be subject to income tax of 22 percent on capital gains. The preconditions for imposing income tax are that the assets of the fund consist primarily from real estate (less than 50 percent) and the holder has 10 percent of the share capital of the fund or value of the contractual investment fund for at least two years preceding the year of transfer.

A nonresident holder of fund units or fund shares must declare such income by March 31 of the year following the year of transfer and pay income tax to the Estonian state within three months following the receipt of the monetary funds for the fund unit or fund share.

Furthermore, the liquidation proceeds of the contractual investment fund are tax exempt in Estonia since the income tax is imposed only on the capital gain realized from the liquidation of an Estonian legal person. Since a fund formed as a public limited company is a legal person then almost in all cases a non-resident will be required to pay income tax of 22 percent on the gains realized on the receipt of liquidation proceeds.

Konstantin Kotivnenko is a senior associate at Sorainen Law Offices in Tallinn