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An Investor's Dream: How to Turn an Old House into a Profitable Apartment Project

The Czech real estate market has long been attractive to investors. Confidence in "brick and mortar" as a safe store of value is deeply rooted, and historical data confirms that property prices rise in the long term. Owning real estate is not just about financial gain; it's about building an asset that will last.

However, this path from dream to reality is paved with challenges. It's not just about buying, renovating, and selling. It is a complex process that takes place on three fronts simultaneously: financial, construction, and, above all, legal. It is in the legal details that the risks that can turn a promising project into a financial nightmare are most often hidden. The difference between success and failure often lies in one thing – quality and timely legal advice. Mr. Novák, just like you, is at the starting line. Let's take a look at the obstacles he faces and how to overcome them with the help of experts.

The First Hurdle: Securing Financing and Choosing the Right Property

Before Mr. Novák even starts his search, he must have a clear financing plan. There are several paths for smaller development projects. A traditional bank loan is common, but banks are cautious with development financing, and the approval process can be lengthy and demanding. 

Many investors therefore combine multiple sources: their own capital, which serves as a basis for negotiations with the bank, or alternative forms such as mezzanine financing or private equity, where another investor enters the project in exchange for a share of the profits. For smaller projects, crowdfunding can also be an interesting option, allowing funds to be raised from a wider range of small investors.

With a clear financial plan in hand, Mr. Novák sets out to find the ideal property. And here he encounters the first critical legal point that will decide the fate of the entire project.

The Key Check: A Family House or an Apartment Building?

The most important question an investor must ask before signing a purchase agreement is: "What am I actually buying from a legal perspective?" In the Land Registry and in the building documentation, a building can be registered as either a family house or an apartment building. This seemingly minor detail has a fatal impact on the entire project.

• Family House: Under Czech building regulations, a family house can have a maximum of three separate apartments, two above-ground floors, one underground floor, and an attic. More than half of the floor area must be used for family housing. Therefore, if Mr. Novák buys a family house with the vision of building five smaller apartments in it, he will run into an insurmountable legal obstacle.

• Apartment Building: This type of building does not have such a limit on the number of units.

Changing a family house into an apartment building is theoretically possible, but it requires a process called re-approval for a new use (rekolaudace). This is a complex and costly building procedure, as apartment buildings must meet much stricter standards – for example, for the width of escape routes, fire safety, or soundproofing between individual apartments. The costs of such a conversion can easily swallow up all the expected profit.

This is where the value of expert due diligence before purchase becomes apparent. The lawyers at ARROWS deal with this issue daily. In practice, this means that even before signing a reservation agreement, they thoroughly check the legal status of the property in the Land Registry, study its construction history, and point out all risks. 

This initial investment in legal analysis can save millions of crowns and prevent the purchase of a property that is simply unsuitable for the given investment plan. In addition to the status of the building, it is necessary to check for other legal pitfalls, such as easements (e.g., a right of lifetime use, a right of way across the land), liens, or other legal defects that could complicate or completely thwart the project.

Permits, Craftsmen, and Hidden Dangers

Mr. Novák has found a suitable property – an apartment building with potential. Now he faces the renovation. However, even the simplest conversion is regulated by the Czech Building Act, and it is easy to get lost in this labyrinth.

When is a Notification Sufficient, and When Do You Need a Building Permit?

The Czech Building Act distinguishes between several levels of construction work. It is crucial for the investor to know which category their plan falls into.

• Modifications without the need for notification or a permit: This includes routine maintenance or minor modifications that do not interfere with load-bearing structures, change the appearance of the building, or alter the way its parts are used. Examples include replacing a kitchen unit, new flooring, or repairing plaster.

• Renovations requiring notification: If Mr. Novák plans to change the layout of an apartment but does not interfere with the load-bearing walls (e.g., demolishing a non-load-bearing partition between the kitchen and living room, moving the bathroom), a so-called notification of construction will suffice. This is a simplified procedure where the building authority issues consent to carry out the construction within 30 days. However, a condition is often to provide the consent of the neighbours. If a neighbour does not give consent, the authority automatically initiates a full building permit procedure.

• Renovations requiring a building permit: Any intervention in the load-bearing structures of the building requires a building permit. This is an absolute and non-negotiable rule. The building permit procedure is more complex, longer, and requires the submission of complete project documentation. The authority itself informs all affected parties (e.g., neighbours) and assesses the project in its entirety.

Building without the necessary permit is a huge risk. In such a case, the building authority will initiate proceedings to have the structure removed, and the investor faces high fines. It is possible to apply for a retroactive permit, but there is no legal entitlement to it.

What types of construction work require a permit?

Not every construction modification requires a building permit or a permit for the project. It depends mainly on its scope and whether it interferes with load-bearing structures, changes the use of the building, or affects the rights of other persons.

• A typical example is replacing windows with the same type, which generally requires neither a notification nor a building permit. However, if the property is located in a heritage zone, a binding opinion from the relevant heritage protection authority must be taken into account.

• For common modifications inside an apartment, such as renovating a bathroom core without interfering with load-bearing structures or demolishing a non-load-bearing partition, a building permit is generally not required. In some cases, however, the consent of neighbours or the homeowners' association may be necessary. Special attention should be paid, for example, to a situation where removing a partition interferes with wiring or other common parts of the building.

• A different situation arises when interfering with a load-bearing wall, for example, when creating a new opening for a door. Such an intervention already requires a permit and, at the same time, project documentation, including an assessment by a structural engineer, is necessary.

• A permit is also required in the case of a change in the use of the building, for example, if a garage is to be newly used as a studio. A change in the purpose of use may be subject to a building permit procedure, and it is necessary to verify whether the intended use meets all relevant requirements.

• An even more complex regime applies to adding a floor or an extension. These construction projects require a permit and generally also comprehensive project documentation. In addition to the building permit procedure itself, it is therefore necessary to count on other expert assessments and requirements arising from the nature of the specific building.

In practice, therefore, it is not possible to determine whether a planned modification can be carried out without further ado simply based on its name. The decisive factors are the specific circumstances of the building, the scope of the intervention, and its impact on the structure, the use of the building, and the rights of other persons.

The Heritage Zone Trap

If the property is located in a heritage reservation or heritage zone, another powerful player enters the game – the National Heritage Institute (NPÚ) and the relevant heritage protection authority. In such a case, the investor must obtain a so-called binding opinion from the heritage officials even before submitting an application to the building authority.

This process cannot be underestimated. Heritage officials have the right to have a say in everything that is visible from the outside, and often in interior elements as well. They can order the use of specific materials (e.g., wooden casement windows instead of plastic ones), the preservation of original doors, facade elements, or roofing. This can significantly increase the cost and duration of the renovation. Timely communication with the heritage officials is key, ideally during the project preparation phase, to avoid investing in plans that are subsequently rejected. 

Wherever you are building, don't forget your neighbours. Informing them about the planned noise and dust is not just a courtesy, but also a way to prevent conflicts. Moreover, the law strictly requires adherence to nighttime quiet hours (usually from 10:00 PM to 6:00 AM), the violation of which is subject to fines.

Do you need a Declaration of the Owner prepared? We will process it with a binding deadline and a pre-agreed price — you can find details and an indicative calculator at https://prohlasenivlastnika.cz.

The Legal Architect: Creating Apartments with a "Declaration of the Owner"

The renovation is complete, the building is physically ready. Now comes the most important legal step of the entire project: transforming one building into a set of separate, legally existing, and sellable apartment units. This act is carried out using a key document called the Declaration of the Owner.

The Declaration of the Owner is not just a formality for the Land Registry. It is the fundamental "constitution" of the entire building, defining what belongs to whom and what rules will apply to the co-existence of the owners. Its preparation is a task for an experienced lawyer, as the slightest mistake can lead to the rejection of the registration in the Land Registry and costly delays. The document is regulated by the Czech Civil Code, specifically in Section 1166 and the following sections.

What Must the Declaration of the Owner Contain?

1. Identification of the property: Precise details of the building and land according to the Land Registry (parcel number, building number, cadastral area, etc.).

2. Definition of units: Each apartment (and non-residential space such as a garage or studio) must be uniquely named, numbered, and described. Its location in the building, layout, and, above all, the exact floor area are stated.

3. Definition of common areas: The document must specify in detail which parts of the building are common. These are typically the foundations, roof, main walls, facade, entrances, staircases, elevators, corridors, but also water, heat, and sewage pipes and other technical equipment.

4. Calculation of co-ownership shares: For each unit, its share in the common areas of the building is determined. This share is key because it determines not only how much the owner will contribute to repair costs, but also the weight of their vote at the owners' meeting. As a rule, the share is calculated as the ratio of the floor area of the given unit to the total floor area of all units in the building.

This is where the strategic role of the lawyer becomes apparent. It's not just about correct calculation. It is necessary to discuss with the investor what voting model is best for the future of the building. Should the owner of a large rooftop apartment have more voting power than the owner of a studio, or should everyone have an equal vote? This decision, made in the Declaration of the Owner, will predetermine the future dynamics in the building and can prevent many disputes.

The Process of Creating Units

1. Surveying: The first step is to have a surveyor or project designer prepare detailed plans of all floors with precise measurements of all units and common areas. These plans are a mandatory annex to the Declaration of the Owner.

2. Legal Preparation: With the plans in hand, a lawyer (at ARROWS, we specialise in this area) will draft the text of the Declaration of the Owner itself so that it meets all the requirements of the Czech Civil Code and the Cadastral Act.

3. Registration in the Land Registry: The completed and signed Declaration of the Owner, together with a proposal for registration, is submitted to the relevant Land Registry office. It is only at the moment the Land Registry makes the entry that the apartment units legally come into existence as separate immovable properties that can be sold, gifted, or encumbered with a mortgage.

When and Why You Will Need an HOA

As soon as Mr. Novák sells the first apartment to a new owner and there are thus at least two different owners in the building, the need for formal management of the building begins to emerge. The law is clear on this matter.

A Homeowners' Association (Společenství vlastníků jednotek - SVJ) must be established in every building where there are at least five units, of which at least four are owned by four different persons. In practice, for an investor who has divided a building into multiple apartments and is gradually selling them off, this means that the establishment of an HOA is unavoidable.

Many are wary of HOAs, often influenced by popular culture (e.g., the film Vlastníci - Owners), which portrays them as a source of neighbourly disputes. However, it is necessary to view the HOA from a different perspective. It is a legal entity whose sole purpose is the effective management of common property and the protection of the investments of all owners. The HOA ensures:

• Management and maintenance of the building: It organises cleaning, inspections, and routine repairs.

• Financial planning: It collects contributions from owners into a so-called repair fund for future major investments (new roof, facade, elevator).

• Bookkeeping: As a legal entity, the HOA is obliged to keep accounts and is registered in the Commercial Register.

Establishing an HOA involves adopting statutes that define the rules of operation and electing bodies (typically a committee or a chairperson). At ARROWS, we can also help you with this process to ensure that the statutes are set up to be functional and fair from the outset, which is the basis for problem-free co-existence in the building.

Selling the Units and Maximising Profit

Mr. Novák is done. The units are registered in the Land Registry, the HOA is ready to be established. Now comes the most pleasant part – the sale. But even this has its pitfalls that can significantly reduce the profit. These concern two key areas: taxes and liability for defects.

How to Avoid Income Tax?

Income from the sale of real estate is subject to personal income tax. The rate is 15% of the profit (the difference between the sale price and the purchase price plus costs), and 23% for high profits (over 36 times the average wage). However, the Czech Income Tax Act (ZDP) offers several ways to legally avoid this tax.

Time tests:

• Residency test (2 years): If the seller had their residence in the property (apartment) for at least two years immediately before the sale, the income from the sale is exempt from tax. It is important that this is the actual residence, not necessarily the permanent residence registered on the ID card.

• Ownership test (5 or 10 years): If the seller did not live in the property (a typical case for an investment apartment), the ownership time test applies. There has been a fundamental change here. For properties acquired up to 31 December 2020, a 5-year period applies. For properties acquired from 1 January 2021, the period has been extended to 10 years. For Mr. Novák, the decisive date is when he bought the entire original house. The period of ownership is not interrupted by the subsequent creation of units in the building.

Exemption for acquiring one's own housing needs:

This is a very powerful tool for investors. If Mr. Novák does not meet either of the time tests, his income can still be exempt. The condition is that he uses all the funds received from the sale to acquire his own housing needs. This could be, for example, buying an apartment or house for himself and his family, renovating his own home, or even paying off a mortgage on his own home. But the conditions are strict:

• The money must be used for housing needs no later than the end of the calendar year following the year in which he received it.

• He must notify the tax office of this intention in advance within the deadline for filing the tax return. Without this notification, the right to the exemption is lost.

How is tax liability assessed when selling an apartment?

When selling an apartment unit, it is always necessary to assess whether the income from the sale is subject to income tax or whether it is possible to use one of the exemption options. The decisive factors may be, in particular, the period of ownership of the property, the way it was used, and the date on which the original property was acquired.

If the seller lived in the apartment for at least two years immediately before the sale, the income from the sale may be exempt from income tax. If this condition is not met, the length of ownership of the property must be further assessed.

For properties acquired before 1 January 2021, a five-year time test applies. Therefore, if the seller owned the property for at least five years, the income from its sale may be exempt from tax if other legal conditions are met.

For properties acquired from 1 January 2021, a longer, ten-year time test generally applies. Therefore, if the seller has owned the property for at least ten years, they may meet the condition for exemption from income tax.

However, there is also the possibility of exemption when using the funds obtained from the sale for one's own housing needs. If the seller uses 100% of the funds obtained for this purpose and at the same time fulfils the notification obligation to the tax office, the income from the sale may be exempt from tax even without meeting the relevant time test.

If none of the conditions for exemption are met, the income from the sale is subject to taxation. In such a case, the tax is not calculated automatically on the entire sale price, but on the tax base after taking into account relevant expenses. The personal income tax rate is 15% or 23%, depending on the amount of the tax base.

Latent Defects

The sale of an apartment is not the end for the investor. On the contrary, a five-year period begins during which they are liable for so-called latent defects of the property. It is crucial to understand the difference:

• Patent defects: These are defects that the buyer could and should have noticed during the inspection (e.g., a cracked window, a scratched floor). If they are not recorded in the handover protocol, the chances of a later claim are small.

• Latent defects: These are more serious defects that already existed at the time of sale but only became apparent later. Typically, these include leaks, faulty structural integrity, mould behind plasterboard, or, for example, non-functional underfloor heating.

If such a defect appears within 5 years of the purchase, the buyer has the right to demand a discount on the purchase price from the seller (Mr. Novák), or if the defect is irreparable and prevents proper use, they can even withdraw from the contract and demand a refund of the entire purchase price. For the investor, this represents a huge financial risk that can destroy the entire profit from the project.

How to defend against this? The best defence is precise legal documentation. At ARROWS, we place enormous emphasis on preparing high-quality purchase agreements and, in particular, detailed handover protocols. In these, the technical condition of the apartment is described in detail, everything is supplemented with photo documentation, and the buyer confirms with their signature that they have been acquainted with the condition. 

This minimises the scope for future disputes. Relying on general phrases in the contract such as "the buyer purchases the property as is" is ineffective – the statutory liability for latent defects is not affected by this.

Why an Experienced Lawyer is the Best Investment

Mr. Novák's story shows that the path from the dream of an investment property to successful implementation is complex. Every step – from property due diligence, through building permits, creating units in the Declaration of the Owner, establishing an HOA, to the sale itself with its tax and liability aspects – represents a critical point where a fatal mistake can be made.

Investing in legal services is not an extra cost. It is the most important investment in the success and security of the entire project. It ensures that your dream does not end up as a nightmare full of lawsuits, fines from authorities, and unexpected expenses.

At ARROWS, we have guided countless investors like Mr. Novák through this entire process. We know the pitfalls and we know how to prevent them. Before you take the first step, talk to us. For us, your dream is a clear plan for success.