This article was first published on the Winckworth Sherwood website.
The Ministry of Housing Communities and Local Government has disclosed its position on a few of the potential reforms it has been consulting around in recent years as regards the relationship between leaseholders and their landlords.
This article looks at the reforms announced so far around enfranchisement, the limits to be introduced to the level of ground rents in new leases, the restrictions imposed on the sale of houses of a leasehold basis and the fees charged to leaseholders for essential information needed on sale are to be limited.
To understand the other reforms that might be made it is helpful to look back at previous government announcements and the Law Commission recommendations.
Leasehold house sales ban, Zero ground rent & other matters
In 2018 the then secretary of state for housing communities and local Government Sajid Javid announced a “crack down on unfair leasehold practices” that would include “new measures announced to cut out unfair and abusive practices within the leasehold system including a ban on leaseholds for almost all new build houses”. His successor James Brokenshire announced in June 2019 that the Government would:
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Abolish the sale of new houses on a leasehold basis.
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Reduce ground rents on new leases to £0.
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Require that management information needed by a seller be provided by the landlord within 15 working days for no more than £200.
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Adjust Help to Buy to remove funding for houses sold on a leasehold basis and enable house buyers wrongly sold leasehold to be given the right to acquire the freehold at no extra cost. The original plan to reduce ground rents to a cap of £10 per annum was dropped. A date for the legislation was not set.
The Government then provided more detail in its response to the consultation around this. It remains for legislation to be introduced in this regard.
Enfranchisement reforms
So far it has been revealed by the Government that:
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New leases are to be extended by up to 990 years rather than the current 90 years for flats (less for houses).
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Marriage value is to be scrapped potentially for all leaseholders, but this remains to be seen. This is currently payable for example by flat leaseholders where their lease has less than 80 years to run. It can be a large component of the premium payable. It remains to be seen whether any of the rates below are to be set in a way that goes toward compensating the landlord for the loss of marriage value.
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The rates used to calculate the balance of the premium payable to the landlord namely “the term” and “the reversion” may be set at levels that favour leaseholders, i.e. the rate used to calculate the sum required to compensate for loss of a ground rent income stream. The amount of ground rent taken into account may be capped.
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Commonhold is to be reformed and a Commonhold council established with a view to the widespread take up of Commonhold.
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Leaseholders of houses are to benefit from zero ground rent.
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An online calculator is to be introduced to make it simpler for leaseholders to find out how much the premium will be to buy their freehold or extend their lease.
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Development value can be avoided by leaseholders instead accepting a restriction on future development.
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Their response to the balance of the Law Commission’s recommendations is to be brought forward.
Valuation
So how will the premium payable by Leaseholders for a lease extension or the freehold be affected? The Law Commission issued its “report on options to reduce the price payable” on 9 January 2020 www.lawcomm.gov.uk/project/leasehold-enfranchisement/.
Their terms of reference were “to examine the options to reduce the premium (price) payable by existing and future leaseholders to enfranchise whilst ensuring compensation is paid to landlords to reflect their legitimate property interests”.
They put forward three alternative options for the valuation framework. As the Government has recently announced marriage value will not be payable it seems likely that scheme 1 is to be implemented with one or more of the sub options. In the example given in the Law Commission’s summary document (P17) the premium was reduced from circa £16,500 to circa £9,000 under scheme 1.
The calculation of the value of the remaining parts of the premium namely the term and reversion rely on a capitalisation rate and deferment rate respectively. So, the former is used to calculate the sum that would currently represent the value of the ground rent income stream to be lost, and the latter to calculate the reduction in value of the freehold caused by having to wait longer before receiving vacant possession of the property.
By changing those rates, the level of premium can be reduced. Only a small change is needed to make a big difference in the premium payable; In the example given in the summary (P18), a 1% movement in favour of the leaseholder in respect of each of these rates would produce a saving to the leaseholder of broadly speaking 20%. Moving them in the other direction by the same amount has a broadly similar upward effect on the premium.
The amount of ground rent taken into account when compensating the landlord for the loss of that income stream may be capped to exclude the element above that set by the Government as “onerous” which may be set at 0.1% of the freehold value of the property. This could have a strong effect on the premium payable; the example given in the report with a ground rent of £300 per annum doubling every 10 years for example would experience a reduction in the premium payable from circa £79,500 to approximately £6,200.
Development value, which is most commonly payable by a group of leaseholders collectively acquiring their freehold, i.e. to reflect the value of being able to construct further floors of flats on top of the existing block, can form a significant element of the premium. The Government has indicated they will enable leaseholders to avoid paying this where they are prepared to accept a restriction on future development instead.
Differential pricing for different types of leaseholder i.e. by reducing the premium payable by owner occupiers only – the Government made no express mention of this in its press release but their reference to ‘homes’ perhaps leaves room for the possibility. They might attach this pre-condition to marriage value being disapplied and/or the application of preferential rates so as to head off the risk of a human rights challenge by landlords.
Unintended consequences
There may be unintended consequences of the reforms around enfranchisement;
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Those leaseholders who stand to save significant sums may withdraw their properties from the sales market to take advantage of the saving before returning with their improved asset so leading to a paucity of supply in areas with a high concentration of short leases.
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Leaseholders who collectively acquired their freehold in the past may find that they receive less than they banked on from those who did not participate originally when they call for an extended lease under the new framework.
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Buyers of second-hand properties may prefer zero rent leasehold properties so forcing those with rents to act.
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While leaseholders may on balance be pleased, it may be of little comfort for those who cannot wait for the reforms to come into effect.
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Leaseholders may opt to withdraw from current claims but then lose out if the reforms are watered down.
The future
Hopefully the detail will be published soon around the Government’s response to the Law Commission’s reports in this regard. In this series we look at those relating to enfranchisement and the right to manage.
Mark Vinall, Partner at Winckworth Sherwood
