The Russian Constitutional Court has allowed foreclosure on the only residential property of a bankrupt individual

Pepeliaev Group advises that the Constitutional Court’s Resolution No. 15-P was published on 26 April 2021. The Resolution determines whether the only residential property should be excluded from the bankruptcy estate where such property belongs to an individual debtor and exceeds the property that is reasonably sufficient for satisfying the need for residential property established by the Constitution.

Facts of the dispute

The Constitutional Court’s Resolution was adopted further to an appeal of Ivan Revkov, who was a creditor of a bankrupt individual against whom the claims were approximately RUB 4.5 million. In 2009, the debtor purchased an apartment with a floor area of 110 sq.m. The apartment was excluded from the bankruptcy estate and remained in the bankrupt’s ownership as the bankrupt’s only residential property.

Previous approaches of courts to foreclosure on the only residential property of an individual

In 2012, the Constitutional Court adopted Resolution No. 11-P, stating that an expensive apartment or a house could have been exchanged for a different residential property. The Supreme Court further explained that a ban on the foreclosure on the only residential property that is suitable for an individual debtor and his family members to live in permanently is justified from the perspective of the Constitution as it ensures the housing conditions of such persons to secure a decent living standard. The legislature should have determined the level of ‘sufficiency’, meaning the general statutory guides for determining the levels of housing for an individual debtor and his family.

The legislature has not yet elaborated any such criteria. The approach the Russian Supreme Court has established to date implies that the only residential property should be ‘inviolable’ irrespective of its qualitative or quantitative characteristics. The Supreme Court referred to it being impossible to establish the criteria of ‘luxury’ residential property in the absence of relevant statutory regulation (see the Supreme Court’s Rulings No. 309-ES20-10004 dated 29 October 2020 in case No. A71-16753/2017 and No. 309-ES20-15448 dated 28 January 2021 in case No. A50-34786/2017).

The Constitutional Court’s position and the conditions for refusing to apply execution immunity

In its Resolution the Constitutional Court has concluded that the execution immunity is designed not to preserve the ownership title of an individual debtor to his residential property by any means but not to allow his constitutional right to housing to be violated and thus to guarantee the individual debtor and his family members a level of housing sufficient for a decent living. The ban on foreclosure is justified from the perspective of the Constitution only to the extent of preserving housing conditions that are acceptable in a certain social and economic environment, which determines what residential property can be treated as sufficient to satisfy a person's reasonable need for housing.

The Constitutional Court has formulated the following conditions under which the only residential property can be included in the bankruptcy estate:

• a refusal to apply immunity will not deprive an individual bankrupt of housing that is suitable for his own living and for the living of his family members;
• the housing granted in exchange should be located within the same residential area and its floor area should be at least the standard area of housing granted on social rent conditions;
• the worsening of the housing conditions should not force the individual to change the place of residence (residential area), which, however, does not prevent him from agreeing to such consequences as well as other consequences which are acceptable under an agreement of the parties to enforcement proceedings and/or an insolvency (bankruptcy) case;
• the correlation between the market value of the residential property and the size of the debt should be taken into consideration; the value of the residential property should allow the claimant’s property claims (or their considerable portion) to be satisfied and the opportunity to be preserved for the individual debtor and his family members to exercise their constitutional right to housing.

The conditions for the replacement of the only residential property can be ensured, specifically, if a different residential property is granted to an individual debtor by the creditor (claimant) in accordance with the procedure established by the court, including within the scope of the insolvency (bankruptcy) procedure.

A court may refuse immunity to individual debtors with regard to the only residential property if such property protected by the immunity was acquired with violations. An example is if the debtor consummates transactions and performs other actions to acquire (create) a facility protected by execution immunity after the debt has been awarded in court proceedings and enforcement proceedings have been initiated.

The Constitutional Court believes it reasonable to conduct a forensic examination to determine the market value of the housing and to compare it with the debtor’s debts.

We believe that when ‘luxury’ criteria are established and housing is provided as a replacement, courts will proceed not only from the social standards, but also from many other factors. First, these include the debtor’s marital status and whether or not he has dependants. Signs of an abuse by the debtor of his right to have the residential property excluded from the bankruptcy estate will be of great importance.

What to think about and what to make provision for

The approach established by the Constitutional Court increases the guarantees of creditors to have their claims satisfied against individuals. In this regard, we recommend that creditors who fail to reach an agreement with the debtor that the latter had his only residential property replaced with property of a lesser value should challenge the exclusion of such residential property from the bankruptcy estate.

At the same time, one needs to think about the mechanism and the sources of financing housing which is in line with the criteria established by the Constitutional Court and is granted to the debtor as a replacement for the housing he possesses.

When a legal position is being devised, it is important to analyse the circumstances under which the debtor acquired the only residential property, as well as the previous and subsequent behaviour of the debtor in terms of the signs of bad faith on his part. Even if ultimately this will not allow foreclosure on the only residential property, that the debtor’s abuse has been proven may help to ensure that the debtor is not freed from his debts. In turn, to individuals who specifically act as guarantors or pledgors under obligations of legal entities, we recommend that risks should be taken into account of liabilities to creditors discharged with the use of the only residential property.

Help from your adviser

Pepeliaev Group’s lawyers are ready to supply services to assess whether the debtor is a good-faith debtor, analyse the prospects of the only residential property being included in the bankruptcy estate and whether it is possible to replace it with housing which corresponds to the signs that it is sufficient to safeguard the constitutional right to housing. We will provide legal assistance under procedures required to exercise foreclosure on the only residential property.