New Urban Renewal Investment Structure Could Save Significant Costs

Israel's challenging real estate market is prompting developers to seek partners or buyers for urban renewal projects at earlier stages. The structure of these deals carries significant legal and tax implications, potentially affecting the project's viability and progress. Typically, urban renewal projects are managed by a dedicated project company that contracts with property owners. When a developer wishes to exit, selling shares in the project company is often simpler than transferring all project agreements and rights. However, urban renewal agreements frequently include clauses addressing changes in developer control, requiring notification, owner consent, or even granting owners the right to cancel the contract. Therefore, even if the project company remains the same, a change in its shareholders can be a substantial alteration for the property owners, impacting their reliance on the developer.

A significant tax shift occurred in 2023 when Israeli tax law was amended to classify rights stemming from a signed agreement with property owners as real estate rights from the contract's inception. Previously, a 2019 court ruling (the Ayuga case) determined that such rights were not considered real estate rights until a deferred sale date and contingent conditions were met, meaning the sale of project company shares was not subject to purchase tax. The 2023 amendment means that selling rights in a project can be considered a sale of real estate, and selling shares in a project company whose primary asset is these rights can incur purchase tax.

This change can add a substantial tax component to the cost of entering a project, influencing investor pricing and overall deal feasibility. However, the law distinguishes between purchasing existing shares and investing in a company through the issuance of new shares. If a project company owner brings in a new investor who injects capital in exchange for newly issued shares, the value of the company's rights is considered zero for purchase tax calculations. This can allow a new partner to join without incurring purchase tax on the project itself, provided the company has no other real estate assets. In contrast, buying existing shares or directly acquiring project rights may still be subject to purchase tax. This distinction is crucial for developers needing capital and investors seeking opportunities, potentially impacting deal costs and the original developer's ability to raise funds.