At the end of 2016, the leasehold ground rent scandal was uncovered. National developer Taylor Wimpey were selling houses and flats with ground rents doubling every 10 years. Having been exposed, Taylor Wimpey have now put aside a reported £130 million to aid those leaseholders.
Since then, the whole leasehold system has come under scrutiny. Why do we have such an archaic method of holding property? Why on earth are houses sold on a leasehold basis? You can understand flats being held leasehold. Houses, however, unless the developer only holds a leasehold interest, should surely be sold on a freehold basis? the main reason is that these developers can sell the freeholds and increase their profits.
An escalating issue
It is not just those leaseholders buying new build properties that may find themselves in a position of having onerous ground rents and unscrupulous freeholders. Many lease extensions offered to leaseholders from freeholders, seemingly on a willing kind gesture basis, can contain doubling ground rents every five or 10 years.
A case Arnold & Baldwin came across was a 999-year lease with a ground rent of £400 per annum, doubling every 10 years.
The final term ground rent was £126,765,060,022,823,000,000,000,000,000,000
(126 nonillion, 765 octillion, 60 septillion, 22 sextillion, 823 quintillion pounds)!
With Nationwide announcing it will not lend on properties with ground rents greater than 0.1 per cent of the market value and other lenders now becoming extremely vigilant on ground rent structures, many of these leaseholders will find themselves unable to mortgage/remortgage or sell until the issue is resolved. This is, of course, providing the conveyancers and surveyors highlight the ground rent escalation clause.
What’s more, the escalating ground rents could convert long leasehold interests into assured tenancies under the Housing Act 1998. But what significance does this have?
If the ground rent in London is or becomes greater than £1,000 and £250 outside of Central London, it will fall under the category of an assured tenancy under the terms of the Housing Act 1998 with certain exclusions.
If this is the case, the grounds upon which the freeholder can claim repossession for unpaid rent are easier. I am not aware of such case as yet, but am sure it shall not be long before it occurs.
So what can be done?
As we know, Taylor Wimpey, after some serious political pressure, have put aside £130 million to aid those who purchased properties from them with a doubling ground rent structure. I understand that one person, however, who already bought their freehold for £38,000, will not receive any compensation.
For other leaseholders, there is no such finding, but there are two main pieces of legislation which allow leaseholders to buy their freehold or extend their lease. Both buying the freehold and extending the lease on flats will reduce the ground rent to a peppercorn, effectively nil value.
The Leasehold Reform Act 1967 entitles qualifying leaseholders of houses to extend their lease or buy their freeholds. In the majority of cases, it is preferable for leaseholders to purchase the freehold, as extending the lease introduces a new ground modern rent and may increase the cost to purchase the freehold in the future.
The Leasehold Reform Housing and Urban Development Act 1993 entitles qualifying leaseholders to extend their lease or participate in an enfranchisement, with 50 per cent or more qualifying tenants participating.
To qualify for a lease extension, the leaseholder must have owned the property for more than two years and the original term must be in excess of 21 years. There are also certain freeholders who do not have to grant a lease extension.
Unfortunately, for the majority of leaseholders who find themselves with onerous ground rents, there is likely to be a substantial premium payable for the lease extension or the freehold.
The premium is based on the value of the ground rent and what is called the reversionary value. Effectively, you have to compensate the freeholder for the loss of ground rent and the fact that they will not be obtaining vacant possession of the property at the end of the lease.
The value of these onerous ground rents will depend on various factors, and each case would need to be taken on its merit. There is risk associated in the value of the ground rents and investors would certainly reflect that in their value.
There will be an even greater price to pay if the lease is below 80 years, as marriage value will be applicable. Marriage value, put simply, is the difference in value between the unextended lease value and the extended lease. 50 per cent of that difference is paid to the freeholder. For example, if a flat is worth £250,000 with a 150-year term remaining on the lease, it may only be worth £225,000 with a 70-year lease. The marriage value is thus £25,000 with 50 per cent (£12,500) payable to the freeholder.
If the lease has an onerous ground rent, this will devalue its unextended lease value, thus increasing the difference between the extended lease value.
A part to play
The conveyancer/solicitor and valuer have a hugely important role to play in stamping out this type of practice, ensuring new builds do not have these onerous levels of ground rent and advising clients on what is a reasonable ground rent and when may it impact on value. They should also ensure that any informal lease extension only includes a ground rent which would not impact on saleability and value of the leasehold interest.
The government is looking at banning sales of new build leasehold houses, and this would be very welcoming. In a press release, the government said “Radical new proposals to cut out unfair abuses of leasehold have been announced by the government today (25 July 2017) in a major move that will deliver a fairer, more transparent system for homebuyers.” We wait to hear.
The government is also considering enforcing a peppercorn ground rent on all new build properties, but this does not resolve the current situation many people find themselves in. Nor does it prevent bad practice of informal lease extensions offered by the freeholder.
Arnold & Baldwin have experience in dealing with these types of ground rents, achieving great results for their clients and minimising the price paid for the lease extension or freehold.