Real Estate 2020

Last Updated April 14, 2020

South Korea

Law and Practice

Authors



Bae, Kim & Lee LLC provides expert legal advice on real estate-related investment projects in Korea. BKL’s real estate team is specialised in city development projects covering various aspects of real estate, such as office, commercial facilities, housing facilities, hotels, multi-use buildings and infrastructure facilities, and is well known as a market leader in these areas. BKL has been involved in the New Songdo International City development project (which is the largest city development project in Korea to date), the Midan City development project in the Incheon Free Economy Zone, the Bismayah New City development project in Iraq and South Saad Al Abdullah New City in Kuwait. The firm consistently meets the needs of its international clients, whose demand for legal services in connection with real estate development, investment (whether equity or debt) in real estate and energy projects, and other real estate-related transactions in Korea is on the rise. The comprehensive legal services BKL provides for international clients include the management and execution of due diligence reviews of target businesses or real property, drafting the full spectrum of required transaction documents, and conducting negotiations with Korean counterparties. The team is also recognised as a market leader in real estate transactions using REIT and REF structures.

The main sources of real estate law are as follows:

  • the Civil Code;
  • the Real Estate Registration Act (RERA);
  • the National Land Planning and Utilisation Act (NLPUA);
  • the Report of Real Estate Transaction Act (RRETA);
  • the Building Act;
  • the Housing Lease Protection Act (HLPA); and
  • the Commercial Building Lease Protection Act (CBLPA).

Interest in large-scale real estate transactions through publicoffering funds (in both domestic and foreign large-scale real estate) is on the rise in Korea. In the case of public offering funds, the listing rules of the Korean securities market provide for a review of formal requirements only, in order to facilitate a listing. On the other hand, listings were quite difficult in cases of publicoffering REITs as, among other things:

  • the rules required a preliminary review prior to the listing review;
  • the listing of preferred stock was not permitted; and
  • the assets that could be owned by REITs were heavily restricted.

However, as demand for publicoffering REITs in the real estate market continued to grow, the listing rules were amended on 20 December 2018 to facilitate the easier listing of these REITs.

A considerable number of new publicoffering REITs were expected to be listed in the Korean market in 2019. Although there were not many new publicoffering REITs, the expected uptick was evidenced by such listings as the Lotte REIT, holding four Lotte Department Stores, four Lotte Marts and two Lotte Outlets situated throughout the country, which successfully completed the listing of all its common shares in October 2019; and the NH Prime REIT, holding the equities of three real estate funds and one REIT, the real properties of which are situated in the main business districts, which successfully completed the listing of all its common shares in December 2020. In tandem with the amended listing rules for REITs and recent amendments to capital markets-related regulations that facilitate various investment structures of REITs, a good number of new publicoffering REITs are expected to be listed in the Korean securities market in 2020.

Due to the uncertainty of regulations with respect to disruptive technologies such as blockchain, these technologies are not actively being utilised in the real estate market. However, there have been ongoing attempts to implement business models taking advantage of blockchain, in real estate transactions in the market. The government has also shown its intention to support the introduction of new technology, including by exempting the application of current regulations to business models that have passed specific examinations, through a "regulatory sandbox".

For example, Kasa Korea’s Real Estate Securitisation Distribution Platform Services was recently allowed regulatory sandbox exemption, enabling it to publicly offer asset-backed securities of which the underlying assets are real properties within Kasa Korea’s platform. This allows investors to conduct transactions on the platform and such transactions are implemented and recorded in detail on a blockchain. These transactions are not subject to regulations on public offerings, under securities law, such as the obligation to file a securities registration statement.

Although the above example suggests that securities tokens may be utilised as a means of securitising real estate and raising funds, under the current regulatory environment, there may not be significant progress in this area this year. However, the development and regulation of blockchain will likely become a prominent topic within Korean capital markets in the long term.

As highlighted in 1.2 Main Market Trends and Deals, the newly amended listing rules, which came into effect on 1 January 2019, will significantly boost the public offering REITs market. Multiple enterprises are reportedly preparing for the setting-up of REITs, by undertaking listing processes followed by public offerings, which are related to demand for the securitisation of their own large assets (eg, large retail shops).

Property rights that may be acquired include:

  • ownership rights;
  • superficies (jeesang-kwon);
  • easements (jeeyeok-kwon);
  • jeonse-kwon (a deposit-based lease right recorded in the registry); or
  • mortgages.

The RERA applies to the transfer of title of all real estate. There is one special law, the Act on Special Cases on the Registration of Cattle Sheds, under which an unenclosed cattle shed may be registered as a building as long as it is firmly fixed on the land, has a roof and a durable structure and its total floor area exceeds 200 square metres.

To be lawful and proper, transfers of real estate must be registered in the real property registry. Real estate is registered and transfers of title are recorded. Title insurance is not common in Korea.

Buyers carry out legal due diligence based on information provided mostly by sellers, and on public information such as that acquired through the real estate registry, the real estate ledger and the certificate of land use plan. Legal due diligence typically covers the transaction structure, title, encumbrances, zoning, government permits and approvals, and taxes.

Representations and warranties typically include:

  • authorisation, enforceability;
  • title;
  • no encumbrances;
  • government approval;
  • no violation;
  • registration;
  • no litigation or dispute;
  • taxes;
  • environment;
  • no expropriation and encroachment; and
  • no hazardous materials.

No specific warranties need to be provided under statute by a seller in the sale of real estate. However, the Civil Code provides a principal clause stating that in the event that a property has defects and unless a buyer was aware of, or could have been made aware of, these defects at the time of the sale, such buyer may cancel the contract only if the objective of the contract is not achievable as a result. In other cases, a buyer may only claim damages. A buyer’s remedies are termination of the contract, indemnification and/or claim for damages.

As several government approvals may be required for real estate transactions, parties should verify if any government approvals are required for their deals, and incorporate sufficient time into the deal schedule to obtain any such approvals.

Even if a buyer did not cause the pollution or contamination of a property, such buyer is responsible for the pollution or contamination unless such buyer was not aware of, or could not have been made aware of, the state of pollution or contamination of the property.

A buyer may ascertain the permitted uses of a parcel of real estate by obtaining a certificate of land use plan issued by the relevant municipal government. It is possible to enter into specific development agreements with the relevant public authorities. A typical example would be the development of non-governmental rental housing in accordance with the Special Act on Non-Governmental Rental Housing.

The government's taking of land (including by an industrial site development project enterprise) is permitted for public interest projects as stipulated in the Act on Expropriation of Land, etc, for Public Works and Compensation (AELPWC). To expropriate property, the government must prepare the records of the properties to be expropriated and make a public announcement, notify the property owners and implement an indemnity plan. The government must then assess the indemnity amount and negotiate with the property owners.

If an owner agrees to transfer their property at the price offered by the government, based on the government’s assessment, an agreement for the property may be executed at such a price. However, if an owner does not accept the government’s price proposal, the government may file, or must file at the request of the owner, a motion to determine the appropriate purchase price for the relevant property with the Central Land Expropriation Committee, which will examine the value of the property, assign a certified appraiser to assess the property, and consider briefs from the government and the property owner.

In approximately three to four months, the Committee renders a decision on the purchase price for the property subject to the expropriation. The government must then pay the purchase price as determined by the Committee. Ownership of the expropriated property is then transferred to the government on the expropriation date indicated in the Committee’s decision, even if the owner files an objection or a lawsuit regarding the decision.

Acquisition and Recordation Tax

When a company or an individual acquires real property through a transaction in Korea, it must pay acquisition tax at a rate of 4.6% (inclusive of surtax) of the purchase price (ie, actual acquisition cost) reported at the time of the acquisition. The acquisition of real estate also incurs a recordation tax, which does not exist independently of the acquisition tax since it has been incorporated into the acquisition tax under recent amendments to the relevant tax law. Such acquisition tax is exempt if a property is purchased on the condition that it will be donated to the state or a local government.

Stamp Duty

Stamp duty of up to KRW350,000 is payable on the contract for the acquisition of real estate, and is generally paid by the buyer. The buyer must also purchase national housing bonds at a rate of about 5% of the purchase price of the real estate. In practice, these bonds are immediately resold at a 10% to 15% discount on the purchase price of the bonds.

Additional Taxes

Similar taxes apply to share deals and partial ownership transfers, to the extent that the buyer (and its related parties) becomes a majority shareholder (with a shareholding ratio exceeding 50%). In such transactions, deemed acquisition tax is imposed when an entity (along with its related parties) becomes a majority shareholder of a company by acquiring more than 50% of its shares. In such cases, the majority shareholder is required to pay the deemed acquisition tax at 2.2% (inclusive of surtax) for real estate held by the company which is subject to acquisition tax, in proportion to the majority shareholder’s holding in the company, as if it has directly acquired such real estate. In addition, the seller of shares in a share deal must pay a securities transaction tax, which is equal to 0.5% (0.45% on or after 1 April 2020) of the sale price.

Foreign investors acquiring land are required to file a report with the local government within 60 days of the execution of the sale and purchase agreement, or to obtain approval in cases where the land is located in:

  • a military facilities protection area;
  • a cultural relic protection area;
  • a natural ecology protection area; or
  • a wildlife protection area.

Foreign investors acquiring 50% or more of shares in land-owning companies are required to file the report therewith as well. However, this reporting requirement may be exempt if the foreign investors elect to file a general real estate transaction report with the local government in accordance with RRETA.

Acquisitions of commercial real estate are financed through both debt and equity financing. In particular, institutional investors such as investment banks, public pension funds, mutual aid associations, securities companies and insurance companies are a significant source of financing for such acquisitions, as well as foreign investors.

In addition to conventional debt and equity financing by various investment vehicles (as described in 5 Investment Vehicles), there are also some financing options that are more customised for acquisitions involving large real estate assets. For example, real estate securitisation using ABS (asset-backed securities) or ABCP (asset-backed commercial paper) is common in Korea. Sale-and-leaseback transactions have also been a commonly used alternative financing method in Korea since the economic recession.

Typical security for real estate investors borrowing funds to acquire or develop real estate, is a mortgage on the real estate, created by a mortgage agreement between the parties. Another type of typical security is a security trust under which the real estate investor entrusts the real estate to a trustee and the lender becomes a beneficiary.

Any foreign lender who intends to acquire a security interest over real estate located in Korea is required to file a prior report with a foreign exchange bank (which must be accepted by such bank) under the Foreign Exchange Transaction Regulations. Furthermore, if the land in question is located within a district subject to transaction approval designated in accordance with NLPUA by the minister of land, infrastructure and transport (MOLIT), and if the foreign lender intends to acquire a security interest that would grant them the right to use the land for the purpose of owning buildings and structures on such land, additional approval must be obtained from the mayor or the head of the district with jurisdiction over the land.

Regarding restrictions on repayments, a foreign lender generally should not be subject to any restrictions on transferring the proceeds of a loan repayment to its offshore account as long as the requisite government authorisation, under the Foreign Exchange Transaction Regulations, was duly obtained in respect of the security agreement and the loan agreement at the time of signing or closing the transaction.

Security over real estate (ie, mortgages) must be registered with the competent court registry office. In the case of mortgages, for example, registration tax (0.2% of the maximum secured debt amount) and local education tax (20% of the registration tax), as well as certain other fees and duties, such as charges for the purchase of national housing bonds and stamp duty, must be paid prior to filing the application for registration of the mortgage.

Under Korean law, if an entity (the security provider) grants security over its assets to secure the debt of another person/entity (the debtor) without adequate consideration from the debtor, this may constitute criminal and civil breach of fiduciary duty by the directors of the security provider. In other words, if the security provider’s directors fail to procure adequate consideration when they approve the provision of collateral, the directors will be deemed to have caused economic harm to the security provider in breach of their fiduciary duty. In order to be deemed "adequate" in this context, the consideration must be equivalent to the exposure risks of the security provider (ie forfeiture of its assets should the debtor defaults on the loans).

In addition, if the debtor is a specially related person/entity of the security provider (ie, its major shareholder), the provision of security by the security provider may be subject to certain additional restrictions or requirements under Korean law, including the following:

  • approval by a resolution of its board of directors with the affirmative votes of two thirds or more of the directors, in accordance with the Korean Commercial Code (KCC);
  • if the security provider is a listed company in Korea, it requires qualification as a specifically permitted exception under the KCC; and
  • it may not constitute "unfair trading" under the Monopoly Regulation and Fair Trade Act of Korea (MRFTA), ie, there will be no negative effect on the market by unfairly enhancing the competitiveness of the debtor in the relevant industry by granting security to such debtor without receiving reasonable compensation.

Furthermore, there is a requirement to file a public notice of acquisition of security interest if the security provider and the debtor belong to the category of “companies subject to restriction on mutual contribution” under the MRFTA, and the value of the security to be granted exceeds a certain threshold.

The enforcement of security over real estate against a defaulting borrower may be made in accordance with the terms of the security document, and there is no other legal formality that must be complied with or legal impediment to enforcing the security if the requisite foreign exchange report was made in respect of the security document and the loan agreement. However, if a rehabilitation proceeding under Korean insolvency law is commenced in respect of a security provider, enforcement of security will generally be prohibited and the lender will be required to report its claim and security, and will have to be repaid in accordance with the terms of the rehabilitation plan approved by the courts.

Korea is a race jurisdiction, and therefore priority of any competing lender’s security interest over the real estate is determined in the order of registration of security. If the foreign lender is a secured lender, no additional step needs to be taken to give priority over any lower-ranking security holder or unsecured lender.

Existing secured debt may become subordinated to newly created debt only if all existing lenders agree to subordinate their debt. In such cases, the existing security must also be subordinated to the new loan, and the order of security must be newly registered in order of priority where registration of security is required to have a perfected right to the security (as in the case of mortgages).

According to the Debtor Rehabilitation and Bankruptcy Act (DRBA), if any new loan is advanced to a debtor subject to the rehabilitation proceeding after the commencement of the rehabilitation proceeding, this new loan is granted preferential right of repayment in priority to pre-rehabilitation claims and secured rehabilitation claims.

A lender may not be held liable for environmental liabilities caused by encumbered real estate unless it acquires the property through a foreclosure sale (or by otherwise enforcing its security). In such cases, the lender’s environmental liabilities will be as described in 2.7 Soil Pollution or Environmental Contamination. Thus, a lender holding security over real estate will not be liable under environmental laws.

Under the Civil Code, security interests knowingly created by a borrower against the proprietary interest of existing lenders may be made void by the courts upon the request of such existing lenders, if:

  • the borrower is insolvent or becomes insolvent as a result of the creation of such security interests; and
  • the borrower’s assets are decreased as a result of the same.

Additionally, granting security interests in favour of only some of the existing lenders without receiving any new financing (or new lending arrangements) may constitute fraudulent transfer.

Under the DRBA, the security interest created by a borrower in rehabilitation or bankruptcy may be voided by the rehabilitation receiver or the bankruptcy administrator if created by a "preferential" act by the borrower that favours certain lenders over other lenders.

Many finance documents that are negotiated in the Korean market are governed by English or New York law or follow English or New York law precedent language. As such, market participants will need to follow regulatory developments in the USA and Europe more closely as a result of the LIBOR phase-out. Currently, transaction documentation utilises triggers to start using fallbacks when relevant rates are unavailable. If these fallbacks are triggered, the language is commonly currently drafted so that the rates are determined based on:

  • reference bank quotations;
  • remaining the same as for previous relevant interest periods; or
  • determination by reference to other rates.

Current fallback language was originally intended to address the temporary unavailability of LIBOR and, as such, documentation language rarely contemplates the possibility of the permanent unavailability of LIBOR. Future reference rate adoption development is expected to take into consideration the appropriateness of governing law and jurisdiction provisions in light of the projected LIBOR phase-out, as well as the development of new market-specific language to address the realities of the Korean market.

The principal laws applicable to strategic planning and zoning across regions are NLPUA (regulating zoning and land use) and the Building Act (regulating construction and building use). For certain types of development, such as the redevelopment of urban areas, specific laws may be applicable, like the Act on Maintenance, Improvement of Urban Areas and Dwelling Conditions for Residents (AMIUADCR), and the Special Act on Promotion of Urban Renovation.

In addition, at a national level, the MOLIT regulates the development and designated use of land by setting out a basic land-use plan. At a local level, municipal governments regulate the details of development and designated use of land by promulgating ordinances.

The principal laws applicable to strategic planning and zoning across regions are NLPUA (regulating zoning and land use) and the Building Act (regulating construction and building use). For certain types of development, such as the redevelopment of urban areas, specific laws may be applicable, like the AMIUADCR, and the Special Act on Promotion of Urban Renovation.

In addition, at a national level, the MOLIT regulates the development and designated use of land by setting forth a basic land use plan. At a local level, municipal governments regulate the details of development and designated use of land by promulgating ordinances.

As explained in 4.1 Legislative and Government Controls Applicable to Strategic Planning and Zoning, at a national level, the MOLIT regulates the development and designated use of land by setting out a basic land-use plan. At a local level, municipal governments regulate the details of development and designated use of land by promulgating ordinances.

NLPUA provides a basic framework for planning regarding the use, development and preservation of national land, and the implementation of such plans. Under such framework, the MOLIT devises the national land plan, in accordance with which the regional plan, urban master plan and city management plan are devised by governors, mayors or county governors.

The city management plan contains a detailed zoning plan covering certain areas of the city. In addition, the city management plan and related local regulations restrict granting development permits or building permits in certain areas where development activities and/or building works could seriously pollute or damage the surrounding environment, scenery, historic buildings, cultural heritage, etc.

To develop a new project or a reconstruction/redevelopment project, the required permits, approvals and licences must be obtained in accordance with the relevant laws (ie, the Urban Development Act, the Housing Act, the Building Act, the Act on the Ownership and Management of Aggregate Buildings, the AMIUADCR, etc).

The specific processes for obtaining such entitlements vary depending on the relevant law. Generally, an applicant for such entitlements will submit an application to the relevant government authority, in accordance with the requirements and processes set forth in the relevant laws, and the relevant government authority will then grant such entitlements if the application complies with the relevant city management plan and the restrictions under the Building Act and other regulations.

Third-Party Objections

In general, a third party does not have the right to object to such developments, although a third party whose rights have been infringed by a development may raise an objection. However, under Supreme Court precedent, in order for such an infringement of rights to be recognised, there must be a "legally protected interest", which means individual, direct and specific interest that is protected by the law underlying the applicable government decision and by other relevant laws.

In addition, a third party who has suffered losses or injury (ie, noise, infringement of the right to light, ground subsidence, etc) due to the construction work for such development may seek suspension of such construction work, or claim damages for losses suffered.

An applicant may appeal a relevant authority’s decision regarding an application for permission (ie, a decision rejecting an application or a decision granting defective permission) by bringing administrative litigation.

Furthermore, a third party who is not directly a party to such a decision, may appeal the decision if its legal rights are infringed by the decision.

However, an appeal seeking the cancellation of a decision by an administrative agency must be brought within 90 days of the appellant becoming aware of the decision or within one year of the decision being issued, whichever is earlier.

Under the law, the relevant government authority must consult in advance with other government authorities or agencies that will be affected by the relevant permits/approvals, at the time such permits/approvals are issued. That said, whether it is possible or necessary to enter into separate agreements with government entities or utility suppliers and what kinds of agreements are typical may vary, depending on the specific law applicable to each development project. For an example of an agreement that may be entered into, refer to 2.8 Permitted Uses of Real Estate Under Zoning or Planning Law.

If a developer who has obtained the relevant permits/approvals does not carry out the development in accordance with such permits/approvals, or does not adhere to the prescribed conditions, the relevant government authority may cancel such permits/approvals.

In addition, if a developer engages in any conduct in connection with a development without obtaining the permits/approvals required under the relevant laws, or does not satisfy a prescribed condition under the relevant laws, such developer may be subject to criminal sanctions (ie, imprisonment, penalty payment) or administrative sanctions (ie, fine payment, business suspension).

There are two general forms of companies:

  • a stock corporation (chusik hoesa); and
  • a limited liability company (yuhan hoesa).

Five special forms of investment vehicles, CR-REIT, general REIT, RETF, RECF and PFV, are also available.

Stock Corporation

A stock corporation has the familiar corporate structure of shareholders, a board of directors and one or more executives, organised under a set of articles of incorporation. Shareholders of a stock corporation are liable only up to an amount equal to their capital contribution, and shares may be transferred freely.

Limited Liability Company

A limited liability company is comprised of "members" instead of shareholders. As in the case of a stock corporation, the liability of members is limited to the amount of their capital contribution to the entity. However, a board of directors is not required for a limited liability company, although one may optionally be created by the members. Unlike in some other jurisdictions, in Korea there is no material difference in tax treatment between a stock corporation and a limited liability company, as both are subject to two-tier taxation from the investor’s perspective (on corporate income, and on dividends).

Real Estate Trust Fund

A real estate trust fund (RETF) may be classified as a trust; it is required to manage its assets through an asset management company with equity of KRW2 billion or more and with five or more professionals.

Corporate Restructuring Real Estate Investment Trust

A corporate restructuring real estate investment trust (CR-REIT) may be classified as a stock corporation; it is required to invest 70% or more of its assets in "CR-REITable" assets, as defined in the relevant regulations, and to manage its assets through an asset management company with equity of KRW7 billion or more and with five or more professionals.

Real Estate Investment Trust

A general real estate investment trust (general REIT) may be classified as a stock corporation, and it is required to invest 70% or more of its assets in real estate and manage its assets through an asset management company with equity of KRW7 billion or more and with five or more professionals.

Real Estate Corporate Fund

A real estate corporate fund (RECF) may be classified as a stock corporation; it is required to manage its assets through an asset management company with equity of KRW2 billion or more and with five or more professionals.

Project Financing Vehicle

A project financing vehicle (PFV) may be classified as a stock corporation, and it is required to manage its assets through an asset management company that is a shareholder of the PFV or a company set up by a shareholder of the PFV.

The minimum capital requirement for each type of entity is as below:

  • stock corporation: not applicable (KRW100 million for foreign invested companies);
  • limited liability company: not applicable (KRW100 million for foreign invested companies);
  • CR-REIT: KRW5 billion;
  • general REIT: KRW5 billion;
  • RETF: not applicable;
  • RECF: KRW100 million; and
  • PFV: KRW5 billion.

The ownership limitation for each type of entity is as below:

  • stock corporation: not applicable;
  • limited liability company: not applicable;
  • CR-REIT: not applicable;
  • general REIT: up to 50% by any one shareholder (with certain exceptions);
  • RETF: must be owned by more than two investors (with certain exceptions);
  • RECF: must be owned by more than two investors (with certain exceptions); and
  • PFV: at least 5% of the shares must be owned by financial institution(s).

Public offering requirements for each type of entity are as below:

  • stock corporation: not applicable;
  • limited liability company: not applicable;
  • CR-REIT: not applicable;
  • general REIT: at least 30% of the shares must be put up for public offering (with certain exceptions);
  • RETF: not applicable;
  • RECF: not applicable; and
  • PFV: not applicable.

Restrictions on external financing for each type of entity are as below:

  • stock corporation: not applicable;
  • limited liability company: not applicable;
  • CR-REIT: permitted within double (or 10 times, under certain exceptions) the amount of its net assets;
  • general REIT: permitted within double (or 10 times, under certain exceptions) the amount of its net assets;
  • RETF: permitted within double the amount of its net assets (with certain exceptions);
  • RECF: permitted within double the amount of its net assets (with certain exceptions); and
  • PFV: not applicable.

Qualifications for assets invested in by each type of entity are as below:

  • stock corporation: not applicable;
  • limited liability company: not applicable;
  • CR-REIT: seller of the assets is a company subject to corporate restructuring;
  • general REIT: at least 70% of the assets are invested in real estate;
  • RETF: at least 50% of the assets are invested in real estate (with certain exceptions);
  • RECF: at least 50% of the assets are invested in real estate (with certain exceptions); and
  • PFV: investment is made in facility and SOC development, natural resource development, or other specific development projects which require large amounts of time and money.

Requirements for real estate development projects invested in by each type of entity are as below:

  • stock corporation: not applicable;
  • limited liability company: not applicable;
  • CR-REIT: the investment ratio is required to be set by shareholders’ resolution and the business plan is required to be confirmed by a licensed real investment consulting service company;
  • general REIT: the investment ratio is required to be set by shareholders’ resolution and the business plan is required to be confirmed by a licensed real investment consulting service company;
  • RETF: the business plan is required to be confirmed by an appraisal company;
  • RECF: the business plan is required to be confirmed by an appraisal company; and
  • PFV: it is required to invest all of its assets in real estate development projects.

The applicability of corporate income tax to each type of entity is as below:

  • stock corporation: taxable;
  • limited liability company: taxable;
  • CR-REIT: dividend declared deduction;
  • general REIT: dividend declared deduction;
  • RETF: not taxable;
  • RECF: dividend declared deduction; and
  • PFV: dividend declared deduction.

The governing law of each type of entity is as below:

  • stock corporation: KCC;
  • limited liability company: KCC;
  • CR-REIT: Real Estate Investment Trust Act (REITA) and KCC;
  • general REIT: REITA and KCC;
  • RETF: Financial Investment Services and Capital Markets Act (FISCMA) and KCC;
  • RECF: FISCMA and KCC; and
  • PFV: Corporate Income Tax Act and KCC.

The main items in annual entity maintenance costs for special investment vehicles are the fees paid to the asset management companies, custodians and business trustees. As an example, for REITs, annual fees paid to asset management companies are typically within 0.2% to 0.4% of the total property purchase price, while annual fees paid to custodians and business trustees typically add up to 0.04% of the total property purchase price. Fees paid by other special investment vehicles do not vary significantly. The annual accounting compliance cost for special investment vehicles is typically around KRW10 million or lower, although this may vary slightly depending on the asset size and the accounting period.

A lease on real estate, an easement on land and a superficies on land are arrangements for the occupancy and use of real estate.

There are two main types of commercial leases:

  • a gross lease typically used for offices – under this a lessee is not responsible for the payment of amounts other than the rent; and
  • a net lease typically used for retail stores – under this a lessee pays, in whole or in part, the cost of possession and maintenance with respect to the real estate, in addition to the rent.

Rentals and lease terms are basically freely negotiable. However, under the Civil Code, certain terms may not be agreed upon to the extent that they are unfavourable to a tenant. For example, in the event that the agreed rent becomes inadequate due to an increase in taxes, public charges or other claims, the landlord is entitled by law to request an increase in the future rent. However, the tenant’s right to request a reduction in the rent in respect of a change in economic circumstances may not be waived or excluded by contractual agreement. As another example, in the event that a tenant installs a fixture in or on the leased building for its benefit with the landlord’s consent, the tenant is entitled by law to request the landlord to purchase the fixture upon termination of the lease and such right of the tenant may not be waived or excluded by contractual agreement.

Furthermore, for leases regulated under the CBLPA, the lease term may not be less than one year (unless the tenant, on its own, elects for a period of less than one year), and the tenant is entitled to request the renewal of a lease term for up to five years. In addition, for such leases, with respect to the right to request an increase or reduction of rent based on changes in economic circumstances, as described above, the rent may not be increased within one year from the execution date of the lease or of a prior rent increase, or by the maximum limit for a rent increase as prescribed by law.

The typical terms of a lease for business premises are as follows:

  • lease terms may typically last one or two years, and may usually be extended for up to five years by the tenant, as set out in the CBLPA;
  • a tenant is usually responsible for the maintenance and repair of leased retail stores, whereas the landlord is usually responsible for the maintenance and repair of leased office buildings; and
  • rent is typically paid monthly.

The rent amount depends on the terms agreed between the parties but will usually increase for retail shop leases in accordance with an increase in the consumer price index (CPI). The CBLPA provides that if the rental or security deposit becomes insufficient due to taxes, import duties or any other increase or decrease in the burden on the leasehold building, or fluctuations in economic conditions, each party to a lease may claim an increase or decrease in the future rental or security deposit. However, the lessor may not increase the rent or security deposit by more than 5%, and such an increase is not allowed within one year of commencing the lease contract, or within one year of an agreed increase in the rental or security deposit.

New rent will be determined by an agreement between the parties after negotiations but, as stated in 6.5 Rent Variation, an increase in rent on certain leases will be regulated under the CBLPA, as applicable.

VAT is payable on rent, unless a leased property is:

  • a rice paddy;
  • a garden;
  • an orchard;
  • a ranch site;
  • forest land;
  • a saltpan; or
  • housing (and attached/accompanying) land.

Costs at the start of a lease include a security deposit and a maintenance fee, the amounts of which are negotiated with the lessor.

Under the Civil Code, the landlord is basically responsible for maintaining and repairing areas used by tenants, but the costs for maintenance and repair incurred by the landlord may be charged to tenants in accordance with the lease contract. In such cases, the tenants must pay for the maintenance and repair in proportion to the size of their leased property.

Utilities and telecommunications charges are paid by tenants, in proportion to the size of their leased property.

A landlord purchases a package insurance policy and, in many cases, pays the premium for insurance, which includes coverage for:

  • property all risk;
  • machinery risk;
  • landlord’s business interruption;
  • gas accident liability; and
  • general liability.

In some double-net or triple-net leases for retail stores, the tenant pays the cost of insuring the real estate.

Restrictions may be imposed by a landlord and relevant clauses may be incorporated into a lease agreement. There are no regulations or laws explicitly imposing restrictions on a tenant’s use of real estate, but regulations related to real estate in general may impose restrictions on a tenant's use of the real estate. For example, the Outdoor Advertisement Control Act (OACA) stipulates that any person who intends to display advertisements or change authorised advertisements must obtain permission from, or report to, the local government depending on the type of advertisements. The OACA also restricts a tenant's use of real estate in connection with advertisements.

Under the Civil Code, a tenant is basically permitted to improve the real estate when such improvement objectively increases the value of the real estate. However, the tenant is not allowed to alter or improve the real estate against a landlord’s objection.

Special laws (as opposed to the general provisions of the Civil Code) do exist, such as:

  • the HLPA, which applies to residential leases; and
  • the CBLPA, which applies to commercial leases.

Parties cannot contract around clauses contained in these special laws to the detriment of tenants (ie, lease agreements cannot contain provisions that are less favourable to tenants than as set forth in the relevant special law).

A tenant’s insolvency is usually incorporated into a lease contract as a cause of termination, but this is invalid because it is inconsistent with the DRBA, which provides that the insolvent company has the right to elect either to terminate or to keep the contract effective.

In most cases, a security deposit is provided as security to a landlord should a tenant default under a lease. A letter of guarantee issued by a financial institution may replace the security deposit in rare cases.

A tenant has the right to continue to occupy the relevant real estate until the security deposit is returned by the landlord, even after the expiration of the lease. Therefore, the landlord needs to be prepared to return the security deposit to the tenant on the date originally agreed.

Lessees and sub-lessees may assign their leasehold interest with the consent of the lessors and/or the sub-lessors, however, it is extremely rare in practice for such consent to be granted by the lessors and/or sub-lessors.

A common reason for a landlord to terminate a lease is a tenant’s failure to make timely rent payments, or the tenant’s alteration of the real estate without approval from the landlord. On the other hand, a common reason for a tenant to terminate a lease is the landlord’s transfer of the real estate to a third party. In such cases, the landlord may negotiate with the tenant to insert a clause in the lease agreement permitting the landlord to freely transfer the real estate as long as the transferee (ie, the third party) agrees to accept all the terms and conditions of the lease agreement.

Leases are not required to comply with registration requirements and particular execution formalities. However, in order for the lessees to protect their leasehold interest from third parties, the lessees are required to record their leasehold interest in the registry (in practice, and in many cases, the leases are recorded in the real estate registry). In addition, the lessee must pay a recording tax, at a rate of 0.24% (inclusive of surtax) of the monthly rent payable to the lessor, and a recording fee of KRW15,000 for the real property.

A tenant may be forced to leave if they are late paying rent, but the CBLPA stipulates that the tenant cannot be forced to leave until the delayed rent payments amount to, or exceed, triple the periodic rent payments (eg, three months' rent in the case of monthly payments).

If the tenant refuses to surrender the real estate voluntarily, the landlord may file an eviction lawsuit against the tenant. It usually takes about six to ten months for a district court to render a judgment, which may then be appealed to a higher court. In order for the landlord to avoid such a long adjudication procedure, at the time the lease contract is made, they may opt for a pre-trial settlement procedure. With respect to the enforcement of the court judgment or the pre-trial settlement protocol, the eviction is executed by a court-appointed enforcement officer and it usually takes two to three weeks from the landlord’s filing of a petition for the commencement of the eviction process to the completion of the eviction process.

A lease may be terminated under the relevant Korean law, including the AELPWC, and the lessee’s leasehold interest may be extinguished upon expropriation of the leased premises (whether land or building) by the government. Specifically, the lease is automatically terminated at the time the expropriation process is commenced, in which case, the lessor must return the lease deposit to the lessee. The lessor is not obligated to pay separate damages for such termination due to expropriation. However, under the relevant Korean law, the expropriating entity must pay the following as compensation to the lessee of an expropriated building:

  • if a residential lease – two months’ cost of living for relocation, relocation settlement cost (between KRW6 million and KRW12 million) and the cost of moving; or
  • if a commercial lease – loss of profits for the interruption of business for up to four months (calculated by aggregating operational profits, decrease in operational profits, depreciation, maintenance costs, labour costs, etc).

Since there are no statutory or other legal procedures for paying contractors, the payment structures for construction projects are typically decided in contractual agreements. The most common payment method for construction contracts is the fixed fee method, while the cost of the work method (or cost plus fee) is rarely used. In public construction contracts, unlike private construction contracts, however, escalation clauses are generally allowed.

In fixed fee contracts, contractors bear the risks relating to, among others:

  • delays due to local civil petitions against the construction;
  • cost increases (including labour and material costs);
  • procurement of construction equipment; and
  • personal injury caused by on-site accidents.

For small to medium-sized projects, build-only contracts are common, in both public and private construction projects. In such contracts, the owner is responsible for appointing an architect to carry out the design, and the contractor is responsible for the construction only.

For large-scale public construction projects, design-build contracts have become more frequently used of late. In such contracts, the contractor is responsible for the design (in whole or in part) as well as the construction of the project.

Commonly used contractual devices for managing construction risks are as follows:

Retention/Retainage/Holdback Provisions

Although such provisions are enforceable in principle, if a contract has been prepared by one party in advance of execution in the same form with multiple counterparties, such a contract will be treated as a standardised contract, and any retention provision therein that is unjustifiably unfavourable to the other party may be unenforceable.

Indemnity Provisions, Including Liquidated Damages and Penalty Provisions

Although such provisions are enforceable in principle, a court may reduce the amount of liquidated damages at its discretion if it deems such an amount excessive (ie, in circumstances involving concurrent delay), and a penalty provision may be unenforceable if the amount is excessive. 

Contract Provisions Regarding Damages for Delay

Delay damages are generally calculated by multiplying the contract price by the rate of delay damages, and the amount is payable unless the delay was due to force majeure or it was the owner/employer’s fault. Although delay damages are enforceable in principle, they are treated as liquidated damages by Korean courts, with the result that if a court finds the amount of delay damages to be excessive, it may exercise its discretion to reduce the delay damages.

Consequential Damages Provisions

Consequential damages are only recognised if they are expected or reasonably foreseeable by the party causing such damages. Therefore, in order for consequential damages to be recoverable, they should be expressly contemplated in the contract to the extent possible. If the parties agree to exclude consequential damages or compensation for loss of profit in the contract, such agreement is enforceable in principle.

Schedule-related risk on construction projects may be managed by including provisions regarding damages for delay in the construction contract. Parties are allowed to agree that an owner is entitled to monetary compensation for delays in achieving certain milestones and completion dates. However, if a court finds the amount of delay damages to be excessive, it may exercise its discretion to reduce such damages. The typical percentage for delay damages is 0.1% of the contract price per day of delay.

Furthermore, parties may even include a provision allowing the owner to terminate the contract if there is a material delay in the construction.

Owners often seek additional forms of security to guarantee the performance of contractors under construction contracts, such as:

  • bid bonds, whereby a bidder is obliged to pay the deposit money when participating in a bid, and the successful bidder is obliged to execute the construction contract (a general requirement for public procurement);
  • performance guarantees/bonds, which secure the performance of a contractor’s obligation under the contract;
  • warranties, which oblige a contractor to remedy defects that occur after completion of construction; and
  • advance payment guarantees, which secure the contractor’s obligation to return the advance payment under the construction contract.

In the event of non-payment, a contractor may exercise lien rights and refuse to hand over the project until the contract price is paid, provided that an incomplete building that is not deemed an independent building is classified as an improvement on the land, and thus may not be subject to a lien. Therefore, the subject property must be objectively considered to be an independent building in order for a lien to be exercised. According to relevant court precedents, an incomplete building will be considered an independent building if it has more than a minimum number of pillars, a roof and main walls.

Civil and Commercial Liens

As there are two types of lien available, a contractor may selectively assert a lien under the Civil Code (a civil lien) or under the KCC (a commercial lien).

For a civil lien, a contractor must be in possession (including indirect possession) of the subject property, and the claims for the contract price must be correlated to the property in possession (meaning that the subject property must be the property in relation to which the claim for the contract price has arisen). The subject property is not required to be owned by a debtor.

For a commercial lien, this correlation is not required, but the subject property must be owned by a debtor (ie, the project owner), and the contractor must be in possession of the subject property due to the relevant commercial transaction.

In addition, a contractor may demand that the owner establish a mortgage on the subject real property to secure the contract price.

Similarly, a designer may assert a commercial lien or demand that the owner establish a mortgage on the subject real property, but the civil lien would not be available, as the designer’s claim for the contract price would not be correlated to the property in possession. To assert the commercial lien, however, the designer must be in possession of the subject property due to a commercial transaction.

Lien Waivers

The right to a lien and the right to a mortgage may both be waived by agreement of the parties. Since the parties may execute such lien waivers at any time by mutual agreement, a comprehensive lien waiver is often executed in advance, for convenience. In such cases, a monthly/periodic lien waiver is not required.

While there is no prescribed statutory form for a lien waiver, a lien waiver will typically contain the location and other details of the subject property, and an expression of intent to waive a lien.

Under the relevant Korean laws, a use permit must be obtained before a completed project may be inhabited or used for its intended purpose. Such use permit (or temporary use permit) may be obtained after the completion of construction from the permitting authority (non-compliance is punishable by a fine of up to KRW50 million).

VAT is levied at a rate of 10% on the transfer of a building; a transferor must collect 10% of the transfer price of the building as VAT from a transferee (ie, 10% VAT is payable on the transfer price). However, no VAT is imposed on a transfer of land, as it is exempt from taxation. In the case of a comprehensive transfer of a business, including all rights and obligations therein, no VAT is imposed on the transfer of the business, even if the transferred assets include a building.

Although the exemption of the acquisition tax applicable to REITs, REFs and PFVs was rescinded on 31 December 2014, there are still other tax benefits. If an investment vehicle such as a REIT or a PFV distributes 90% or more of its distributable income as dividends, the disbursed dividend amount may be deducted from the income calculated for the relevant business year. An REF is not a pass-through entity and thus not a taxable entity. Such investment vehicle is also exempt from the tripling of the acquisition tax or the corporate registration tax in an overpopulated control area such as Seoul Metropolitan City.

If a corporate entity occupies business premises where it continuously conducts business, with its employees working there and its facilities installed at the location, the business owner registered in the tax ledger must pay the property tax portion within the resident tax in the amount of KRW250 per square metre of gross floor area of the business premises. If the owner of the building where the business premises are located is not the business owner, then the owner of such building may become liable for secondary tax liabilities. However, any business premises with an area under 330 square metres is tax exempt.

In addition, the corporate entity must pay a per capita resident tax, at a rate of 0.5% of the aggregate monthly salaries paid to employees, to the local municipal government where the business premises are located. However, the per capita resident tax may be increased or decreased by up to 50%, in accordance with the rules set by the local municipal government.

Regarding a foreign corporate entity’s income generated from Korean domestic sources, the person/entity providing the income, depending on the category of income, must withhold and pay income tax to the government, or the foreign corporate entity itself must report and pay the income tax. Rental income from real estate falls under income generated from domestic sources, and a foreign corporate entity itself must report and pay the income tax. The applicable tax rate is 11% to 27.5% of the income. A foreign corporate entity's income from the transfer of real estate falls under income from domestic sources, and the person/entity providing the income must withhold as income tax the lower amount of either 11% of the payment amount to the foreign corporate entity for the transfer, or 22% of the capital gain from the transfer, and report and pay the same to the government.

The foreign corporate entity receiving income from the transfer of real estate must also complete an income tax filing, but the amount withheld as income tax by the transferee is creditable. The applicable tax rate is the same as for the real estate rental income (11% to 27.5%). There are no special exemptions for real estate transfer taxes, and tax treaties joined by Korea generally prescribe that real estate rental income and real estate transfer income are taxable in Korea, the location of the income source.

Compared to leasing real estate, a domestic corporate entity owning real estate may have depreciation of the building recognised as a pecuniary loss of such corporate entity, within the limits prescribed in the Corporate Tax Act. There appear to be no other tax benefits from owning real estate.

Bae, Kim & Lee LLC

Centropolis Tower B
26 Ujeongguk-ro
Jongno-gu
Seoul 03161
Korea

+82 2 3404 0000

+82 2 3404 0001

bkl@bkl.co.kr www.bkl.co.kr
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Law and Practice

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Bae, Kim & Lee LLC provides expert legal advice on real estate-related investment projects in Korea. BKL’s real estate team is specialised in city development projects covering various aspects of real estate, such as office, commercial facilities, housing facilities, hotels, multi-use buildings and infrastructure facilities, and is well known as a market leader in these areas. BKL has been involved in the New Songdo International City development project (which is the largest city development project in Korea to date), the Midan City development project in the Incheon Free Economy Zone, the Bismayah New City development project in Iraq and South Saad Al Abdullah New City in Kuwait. The firm consistently meets the needs of its international clients, whose demand for legal services in connection with real estate development, investment (whether equity or debt) in real estate and energy projects, and other real estate-related transactions in Korea is on the rise. The comprehensive legal services BKL provides for international clients include the management and execution of due diligence reviews of target businesses or real property, drafting the full spectrum of required transaction documents, and conducting negotiations with Korean counterparties. The team is also recognised as a market leader in real estate transactions using REIT and REF structures.

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