The Leasehold & Freehold Reform Bill and Capping Ground Rent - Update

So what is proposed?

Leasehold & Freehold Reform Bill

Numerous changes to the existing rules around flat and house leaseholders’ ability to extend their leases and acquire the freehold are proposed, along with changes to the service charge and buildings insurance regime including:

• Two-year qualifying period of ownership is to be abolished - This benefits buyers of leasehold flats and houses who can make a claim to extend the lease or acquire the freehold immediately upon taking ownership.

Currently they must wait 2 years or go through the rigmarole of arranging for their seller to commence the relevant claim and assign it to them with the additional costs and associated risks that currently exist.

• 25% rule - The current restriction on flat owners not being able to acquire their freehold (or the right to manage) where the non-residential element exceeds 25% is to be increased to 50%.

This will increase the number of buildings to which these rights will apply.

• Lease-backs - Leaseholders will also be able to require their landlord to take a lease-back of any unit that isn’t let to a participating tenant in their enfranchisement or right to manage claim.

This will enable them to avoid being priced out of making such claims where the landlord fails to exercise its discretion to take a lease back (as is the decision under the current rules), which can leave leaseholders having to decide whether they have deep enough pockets to afford certain reversions, such as commercial units let on a rack rent basis.

• 990-year extensions are proposed to replace the current 90-year.

While this will continue to be subject to landlord’s redevelopment break rights (thus preserving the ability for buildings to be replaced as they become uneconomic to repair), this will put more emphasis on improving the terms of the lease during the lease extension process as landlords and management companies will need to regulate multi-occupancy building for a much longer period than originally anticipated.

• Stand-alone right to buy out ground rent obligation – Leaseholders who already have over 150 years of their lease term remaining will benefit from a standalone right to lower their ground rent to a peppercorn without also needing to extend their lease or buy the freehold.

This may prove popular if this will lower the premium or improve the speed of the process.

• Premium level - The premium that leaseholders currently need to pay to extend their lease or buy their freehold is set to change.

The requirement to pay marriage value (applicable where the lease term has dropped below 80 years remaining) is to be scrapped.

Onerous ground rents are to be ignored for the purpose of the calculation; it would no longer take into consideration a ground rent in excess of 0.1% of freehold value.

The government will prescribe the rates used to calculate the premium, meaning the deferment and capitalization rates. The premium being reduced, and how much it will be reduced by, will depend on where the rates are set.

• Intermediate leases – These are to be treated differently which may benefit leaseholders, as they are to be treated as if they had been merged into the freehold for the purpose of determining the premium the leaseholder has to pay.

This will simplify the valuation process and potentially reduce the premium payable. Intermediate leaseholders are to receive a new right to commute the onward rent they must pay their landlord in turn to reflect their loss of ground rent income. In a collective claim the participants can opt not to acquire any intermediate lease relating to a non-participant’s flat, potentially reducing the premium they must pay.

• Cost regime – Broadly speaking leaseholders will no longer have to pay the landlord’s costs of dealing with their claim, such as valuation and legal fees. Instead, each party will bear their own costs. The jurisdiction of the First Tier Tribunal is to be increased so that as far as possible all disputes are dealt with by it.

This will benefit leaseholders as it is a no costs forum, meaning that in most cases each party will pay their own litigation costs.

• Transparency of service and administration charges – It is proposed that transparency is improved to benefit leaseholders, by landlords having to provide an annual written statement of account.
   
• Buildings insurance commissions – The Bill includes a proposed prohibition against commission from the manager of the insurance being recovered from leaseholders via their service charge. A transparent handling fee system is to be introduced.
   
• Recovery of landlord’s costs through the service charge or as an administration charge – The Bill proposes to reverse the requirement that leaseholders must apply to court to limit their liability for landlord’s legal costs.
   
• Regulation of estate management – The Bill provides for freehold homeowners on managed estates to receive new rights, putting them on the same footing as leasehold homeowners to include the ability to challenge the reasonableness of the charges, transparency of cost information, the ability to obtain other information and civil penalties where the estate management provider fails to comply.
   
• Rent charges – Rent charges commonly provide for payment of a service charge in an estate situation for example. Their terms can affect the mortgageability of a property. The Bill proposes to remove the ability to take possession, or grant a lease, of the property where the rent charge is unpaid for a short period of time in this regard.

Capping Ground Rent

The consultation considers a number of options including:

• Capping ground rents at a peppercorn (so nil effectively).
• Setting a maximum financial value for ground rent.
• Capping ground rent at a percentage of the property’s value.
• Limiting ground rent to the original value when the lease was first granted.
• Freezing ground rents at their current levels (where they increased in line with contractual steps in the meantime since grant of lease).

Introducing a cap which is more restrictive than the valuation assumption under the enfranchisement rules (to be amended as above under the Reform Bill) would have a downward effect on the premium payable by a leaseholder to extend their lease or acquire their freehold.

Mortgage providers currently have requirements around the level of ground rent they will accept and so if a cap is introduced within the most conservative range accepted by mortgage providers, this will have a beneficial effect from the point of view of leaseholders.

Conclusion

It remains to be seen whether landlords will challenge any change the government proposes to make to cap ground rents or under the Reform Bill.

Leaseholders and landlords alike will no doubt take a keen interest on the passage of the Reform Bill through the Houses of Parliament and the outcome of the consultation around capping ground rents.