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Draft RF Law No.347961 4 On Introducing Amendments to Legal Acts of the RF with Regards to Specifying Terms and Procedures for Acquisition of Rights for State Owned or Municipality Owned Land Plots. Version enacted by the State Duma of the Federal Assembly in first reading on Novem ber 22, 2006.

Section Institutional Problems As for implementation of these norms, it is worth noting that no matter enter prises were privatized through tenders84, or by way of auction85 land plots were never subjects of privatization. During privatization the owner of the business was granted only the user rights for the land plot.

With regards to the reasoning based on incorporation of land value into the value of privatized businesses it is worth noting that the procedure for defining the value of privatization subjects effective from February 20, 1992, until March 29, 2003, when defining the details of valuated assets includes just user rights for the land plots as part of fixed assets and investment 86.

Thus, there are no reasons to assume that the value of land plots was incorpo rated into the value of business entities when privatizing them. The Terms for priva tization of business entities (set by the Federal Law) did not mention land as sub ject of property rights. The price paid when purchasing the enterprise (irrespective of the format of purchase: auction, tender) did not include the land plot value. In other words, there are no grounds to claim illegitimacy of the term about paying for land.

Nevertheless, in addition to legitimacy of legal provisions there are criteria of justification (including that from the economics standpoint) and feasibility of the government decisions. The decision about the need for everyone to pay for privati zation of land does not comply with such criteria. There are a number of reasons for that:

First of all, Russian business entities, or at least the majority of them, are not capable of buying out land at full value. Using the maximum rates the total value of lands to be bought out by businesses makes from $30 bln (according to Realtors Guild estimates) to $106 bln (according to Russian Union of Industrialists and En trepreneurs estimates), which accounts for 1/4 of Russian GDP. According to the estimates of A. V. Sharonov, Deputy Minister of Economic Development and Trade, land to be bought out by businesses costs $34.8 bln. He believes this amount to be impossible for Russian companies87.

Buying out land is a problem even for major Russian corporations. Thus, RAO EES (United Energy Systems) of Russia estimated the value of land to be privatized by this Holding somewhat at the level of $800m. Buying out land occupied by pro duction facilities of JSC AvtoVAZ (the area of the plant territory accounts for more than 900 hectares) may cost dozens of millions of USD88. And even for such giants of domestic business with their significant gross annual margins and availability of Item 1.4 of Provisional Regulations on Privatization of State and Municipal Enterprises in the RF on a Tender Basis (Appendix No.5 to the Decree of the RF President No.66 of January 29, 1992).

Effective from February 20, 1992, until March 29, 2003.

Item 1.5 of Provisional Regulations on Privatization of State and Municipal Enterprises in the RF through an Auction (Appendix No.4 to the Decree of the RF President No.66 of January 29, 1992).

Cancelled by the Decree of the RF President No.832 of July 14, 1998.

Item 2.1 Provisional Methodology Guidelines for Privatization Subjects Valuation, Appendix No.2 to the Decree of the RF President No.66 of January 29, 1992.

Finance, 2003, 18, p. 4.

News on real estate market, issue 43, 10.11.2003 See: www.nrm.ru.

RUSSIAN ECONOMY IN trends and outlooks cash land privatization costs will be pretty noticeable. For the majority of busi nesses challenged by acute deficit of floating capital or investing heavily into busi ness development, buying out land under the proposed conditions is practically impossible.

Secondly, impossibility for the majority of Russian businesses to buy out the lands carrying out their production facilities will lead to re distribution of property rights for land and land titles in favor of major corporations, finance organizations, bureaucrats and their affiliated organizations. At the same time, part of the cur rently operating businesses shall be liquidated, and the economic status of other small and medium size businesses will significantly decline. And if we remember the fact that 2/3 of national GDP is generated by private businesses, we may defi nitely claim that such liquidation may have a serious negative impact over the dy namics of economic growth.

Thirdly, using the land buy out price as additional revenue source for regional budgets will have positive economic effect only in a very short term perspective, with the exception of major financial intermediary centers. It is related mostly with insufficient floating capital and poor investment capacity of the majority of lands due to underdevelopment of the infrastructure. Increased concentration of capital, growth of corruption and abuse in the sphere of administrative decision making about land may result from the need for everybody to pay for privatization of land.

Thus, introducing mandatory payment for privatization of lands for all busi ness entities without any exception does not contradict with the legal framework, but is economically unjustified and unfeasible, as it impedes further development of the major bulk of market players and eventually the economic development of the country. Paying for privatization of lands based on the market prices may also ag gravate social problems, hurt the middle class and really private businesses which are not based on solely state owned assets.

Given the current profile of energy prices, lack of system of government sup port to smaller and medium size businesses, but simultaneously high taxation rates for such businesses, as well as insufficient development of the banking sector ca pable of providing financial instruments for buying out land, free privatization of lands for effective smaller and medium size businesses would be feasible. The mandatory terms should be the following: conversion of production and land use purposes should be banned for a certain period (or allowed only for additional fee), as well as divestment of land and production reduction.

Transferring land at its nominal value or under long time installments schemes may be a good enough interim option, so that the owners of businesses occupying the respective land plots have real possibility to buy out their lands and exercise preferential right for buying out land plots occupied by their assets.

3) High price for land plots buy out.

The price for buying out land, specifically its very high level, is one of the key barriers for land market formation. The following key reasons for such situation should be emphasized:

Section Institutional Problems a) the entities of the Russian Federation (regional authorities) were granted the right to establish the level of buy out price for land plots.

Having defined that the buy out price for land shall be defined at the sub national level (item 2 of the RF Law No.137 FZ of October 25, 2001 On Enactment of the RF Land Code and item 7 of Article 28 of the RF Law No.178 FZ of Decem ber 21, 2001 On Government and Municipal Property Privatization in the RF), the legislator created exclusively favorable grounds for economically unjustified deci sions targeted at receiving the maximum revenues from selling land, as well as an extremely favorable environment for regional officials abuse and unjust enrich ment.

Thus, the entities of the Russian Federation were granted the rights to set the prices for land in residential areas making certain times to the regional land tax rate and based on the number of residents:

- above 3 mln people in the amount from 5 to 30 times land tax rate per acre age unit;

- between 500 thou to 3 mln people in the amount from 5 to 17 times land tax rate per acreage unit;

- under 500 thou people and beyond the residential areas borders in the amount from 3 to 10 times land tax rate per acreage unit (as of the beginning of the current year).

(With this prior to RF entity setting the price for land the minimal land tax rate should be applied).

In the circumstance of the major bulk of Russian regions being subsidized from the federal budget and suffer from insufficient budget resources, receiving the right to charge land buy out could be viewed as a chance to increase the re gional budget revenues. As an outcome of such policy we can observe in practically every location setting the land prices at the maximum high level allowed by the law for cities and other residential areas with the respective number of residents.

Thus, in the absolute majority of regions where the number of population in cities and settlements including the regional capital city did not exceed 500 thou people, the price for land was set at the level 10 times above the land tax rate. On the other hand, there is a significant group of regions where the number of popula tion in major cities exceeds 500 thou people, meaning that for the regional capital city the land price was set at the upper level of the second tier scale, i. e., 17 times above the land tax rate, as for the other settlements and residential areas of the same region it was set at the level 10 times above the land tax rate. The latter re gions were (as of beginning of the H2 of 2002) Ryazan, Tula, Volgograd, Rostov, Nizhny Novgorod, Orenburg, Samara, Saratov, Ulianovsk, Omsk and Kemerovo Oblasts; Krasnodar, Altay and Khabarovsk Krais; Udmutiya Repblic.

Further on the inadequately overpriced land was reassessed in some regions and the priced were brought down. In some regions it was related with lobbying ef forts of local business community (e. g., in Tomsk oblast, when the buy out price was reduced from the level of 10 times above the land tax rate down to the level of 3 times above the land tax rate). In other regions the key reason for reducing the RUSSIAN ECONOMY IN trends and outlooks buy out price was the inspiration of many regions to keep as much as possible revenues from selling land with their regional budgets.

b) changing the procedure for allocation of the revenues received from selling land between different levels of budgets.

In periods, when the next years federal budget would stipulate any change in allocation of revenues received from selling land in favor of the federal budget, the regions would set relatively low land buy out prices to assure incentives for more sales, so that the region is able to keep the maximum possible revenues. By im plementing such policy the regions were able to assure significant additional inflow of cash as transfers from upper levels budgets.

Such methods were used, for example, in Kemerovo region, where the land buy out rates were changed 6 times during the period of 15 months starting from the date of enactment of the new Land Code. Novosibirsk regional administration was applying similar tactics (the price for land in Novosibirsk was decreased from 17 times above the land tax rate down to 6 times rate), as well as Vologda regional administration (price decreased from 10 times above the land tax rate down to times rate, and then raised again up to 10 times above the land tax rate).

) defining the buy out prices for land plots as x times above the land tax rate.

Starting from January 1, 2005 (item 2 of Article 7 of the RF Law No.95 FZ of July 29, 2004 On Amendments to Sections 1 and 2 of the RF Tax Code) is also to be set by legal acts of representative local representative bodies of municipal bod ies, and in the cities of national status Moscow and St. Petersburg by regional laws. The federal legislator merely defines, that with regards to land plots occu pied by businesses the tax rate shall not exceed 1.5% (Article 394 of the RF Tax Code). In practice the entities of the federation (due to the above described rea sons) set the maximum high rates.

) land tax rate (and the resulting buy out prices for land lots) is calculated based on the cadastre value of land plots.

According to the estimates by M. Mishustin, Director of the Federal Agency for Real Estate Cadastres (Rosnedvizhimost), the overall cadastre value of Russian lands constitutes RUR 23.6 trillion. 82% of overall cadastre value of Russian lands falls on the lands in residential areas, however, such lands constitute no more than 1.9% of the national territory89.

The cadastre evaluation of lands was undertaken between 2000 and 2006 lead ing to increase of the value for the land plots to which the cadastre evaluation meth odology was applied, and this methodology depends not just the location of a land plots within a certain cadastre quarter, but also on their functional use capacity.

Thus, for example, cadastre evaluation of lands in Moscow took place in 20002002 and resulted in establishing 1516 cadastre quarters instead of previ ously existing 100 zones. As for the price for land itself, even in downtown Moscow it may vary between RUR 60,501 and 1,331 per 1 sq. m90. According to V. Damur See: realty.rbc.ru/regions/news.shtml/url=2006/04/10/4303841@region=msk.

Appendix No.1 to Moscow City Government Resolution No.356 PP of May 24, 2005.

Section Institutional Problems chiev, Director of Land Resources Department of Moscow City, by the beginning of 2006 the average cadastre value for Moscow land constituted RUR 180K per 1 hec tare per annum, with the minimal level being RUR 1,800, and the maximum achiev ing RUR 900K per 1 hectare per annum 91.

According to the data provided by Leningrad regional Control and Accounting Chamber, the cadastre value of land in Leningrad region was defined above the market value of land. According to Auditor S. Gnilitsky, the deviation from the market price may constitute from $15 up to $560 per 100 sq. m92.

The totality of all these reasons defines the high level of high buy out prices for land lots for businesses. Thus, the price of land plots in Moscow when putting them on sale is defined based on the 30 times land tax rate per acreage unit93 and on the fact the land tax rate being set at the level of 1.5% of cadastre value of lands.

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