A Freehold Ground Rent Investor Speaks…
The Leasehold and Freehold Reform Bill is making its way through the Parliamentary process. The bill proposes to make long-term changes to home ownership legislation for millions of leaseholders and freeholders in England and Wales. Whilst the media is mostly fixed on how leaseholders consumer rights will be affected freeholders are equally concerned about the proposed legislative changes writes Clive Scrivener, Partner at Wimbledon based Chartered Surveyors.
The Leasehold and Freehold Reform Bill proposes that the standard lease extension term for houses and flats will increase to 990-years (up from 90 years in flats, and 50 years in houses), with freeholders’ ground rents reduced to a peppercorn (zero financial value) however, it is not clear on if the leasehold will be required to pay a premium as they do under current legislation.
Lewis Rolfe, of Audbern Ltd, a Freehold Ground Rent Investor (LFRB26), has submitted this written evidence to the consultation. He makes a compelling case on behalf of professional freeholders:
“While we have acted correctly, in accordance with the law, we are facing business collapse. What is being proposed is effectively the UK government saying, “even though you have worked hard, paid taxes, acted legally etc, we don’t like the car, the house etc you own, so we are going to take that from you and give it to someone else, and will not provide any compensation”. What next? What message does this send to an investor, foreign or otherwise? Whether they have invested in Freehold ground rents or not? There are two parties to this equation; Leaseholders and Freeholders. While the UK government may wish to “level up” (as it has been portrayed) i.e. take from one party and give to another, the bill does not address the state compensation that must be due for the Freeholder’s loss.
“Freeholders were encouraged to purchase perfectly legal assets, with the price effectively set by current legislation e.g. the right to receive marriage value, if leases were extended and/or enfranchised, the right to receive ground rent income in accordance with property’s lease etc.
“Our business will lose £820,000 ground rent income per annum.
“This would represent a capital loss of £22 million. Furthermore, the removal of Marriage Value is likely to cost £25-30 million. This is the single greatest intervention into private contracts ever proposed by the UK government with losses to investors of between £10 billion and £40 billion, for the proposed ground cap alone, depending on final legislation passed.
“Without compensation, this would represent an overreaching breach of Protocol 1, Article 1 of the European Convention on Human Rights (which forms part of our domestic law by virtue of the Human Rights Act 1998).
“The bill, and the prospect of capping ground rent is a retrospective re-writing of the agreement struck between two consenting parties by statutory intervention. Many Freeholders have secured loans against that income. Any loan will need to be repaid regardless of any change in legislation affecting income. Should income be reduced or extinguished, the mortgage covenants are likely to be breached, with further bank costs being incurred, increasing the sum owed and the “calling in’ of that loan. Should that business loan be secured against personal guarantees, this is likely to lead to owners losing their homes and becoming bankrupt. This will obviously impact the business’ ability to pay staff, shareholders and directors’ income and pensions.
“Those individuals’ futures are tied to the business’ success. Any Freeholder collapse will affect their leaseholders, the management of those properties, the leaseholders’ ability to sell l their property, work required under the Building Safety Act etc. The BSA sets the Relevant Value, and this legislation then seeks to undermine that valuation and the Freeholder’s ability to obtain finances to rectify any building. Without state compensation, if the bill becomes law, it will result in the largest and most public group litigation ever seen and, for obvious reasons, we will have to consider participating in such litigation. Our company’s future, and that of its owners and staff, their pensions, etc, is tied to the business’ success. We have acted correctly and legally in building our business, that the government and this bill, seems to wish to take from us, without state compensation.
“There is a clear misunderstanding why insurance premiums have increased in recent years. In September, the Financial Conduct Authority published its report. The FCA concluded there has been a reduction in the supply of insurance for multi-occupancy buildings since the 2017 Grenfell fire tragedy, with swathes of insurers leaving the market and a reduced appetite to take on new business amongst other reasons, due to the falling profitability of business. The number of insurers supplying insurance to multi-occupancy buildings has reduced significantly over the past few years, removing the competitive pressure on insurers to lower prices. The report makes for interesting reading, even if some of the content is contradictory. However, throughout the report, one thing is clear – the insurance market is severely broken.
“To understand why, it’s important to recognise the market has succumbed to a perfect storm in recent years. Rising interest rates, insurers leaving the market, and claims-cost inflation has led to hard market rates, where premiums have increased significantly, where many insurers would rather remove themselves from the market, rather than offer a solution that involves a significant risk to their balance sheet. The FCA report also states there is a lack of transparency from insurers and building owners, which causes considerable distress for leaseholders. In fact, there is a presumption among the leaseholder community, which has been exacerbated by commentators promoting inaccurate theories, that leaseholders’ costs are rising due to insurance brokers and freeholders taking high levels of commission. This is simply not correct.
“The FCA has driven down insurance commission in recent years. There is a perfectly workable solution. For whoever carries out the necessary work to place and manage insurance, there is obviously a cost. All the bill needs to do, is to define what percentage commission to carry out that work is correct. However, what has been drafted is a very complicated, and will pit Freeholder against Leaseholder. It will not reduce leaseholders’ costs. The cost for the work will remain the same.
“Premium increases have been seen for all types of insurances, whether for multi-occupancy buildings, commercial properties, home and contents, vehicles, professional insurances etc…. Those increases have not been driven by commissions as suggested, rather than supply cost issues, inflation, claims inflation and insurers more willing to pay out for claims and recover that cost through higher premiums. While an insurance broker may earn say 30% commission for the necessary work they undertake, that broker may “share” in the region of 25% of that commission with the Freeholder for the service the Freeholder undertakes. That means the Freeholder will receive approximately 5-10% of the overall premium and certainly not 50% that has been suggested. Due to the buying power and expertise, the Freeholder has due to their portfolio size enables premiums to be significantly lower and the insurance cover provided to be enhanced than if leaseholders were to insure their blocks in isolation.
“It is important to note Freeholders have a certain amount of bargaining power within the market, first due to the size of their portfolios, and second because they can establish professional relations with insurers by demonstrating a clear understanding of the risk, they are asking the insures to protect. As a result, these freeholders are often able to lower premiums for their leaseholders. This would simply not be possible in a commonhold system or a system whereby the Freeholder were not reimbursed for their work, which is often “unmeasurable and/or not easy to demonstrate”. It is due to their portfolio size and ‘ bargaining power” that enables Freeholders to obtain lower premiums or bespoke insurance allowing leaseholders to enjoy enhanced covers and extensions, which would not be obtained if each property were insured individually i.e. without that portfolio backing. That “service” has a price. If Freeholder s were not to be reimbursed for that “service”, why would they bother? The idea individual residents can come together and replicate Freeholders’ buying power and expertise to get cheaper insurance , with extended covers and enhancements, in such a hard market is wishful thinking.
“It is likely the costs to the leaseholders will increase. For example, if the ground rent in the property’s leases is less than the cost the Freeholder incurs to carry out their Freeholder functions. Because the Freeholder has no means of recovery, many of the costs the Freeholder currently incurs are “absorbed”. However, if those costs became recoverable it is likely the costs to the leaseholder, in the main will increase. While the headlines always refer to “toxic ground rents”, for vast majority of leaseholders ground rent payments are very low (less than £250/year). Additionally, some ground rents are fixed or at a peppercorn. If the Freeholder were able to recover their costs for owning the property, the leaseholder is likely to pay more than currently.
“There is a clear misunderstanding of how many leases are worded/structured. Most house, maisonette leases and leases with a RTM/RMC do not reserve a service charge (managed by the Freeholder). Either the Freeholder cannot recover their costs, or they do so on fixed recovery basis per job. The RTM/RMC manages the service charge account or there isn’t one. The Freeholder does not. If the Freeholder will need to charge the costs incurred for any insurance work, for owning the Freehold and other matters, from that RTM/RMC, this will be more bureaucratic and costly than the current process. While having incurred the costs, the Freeholder would then need to wait until payment is received from the RTM/RMC. This will cause confrontation and disputes. Many RTM/RMC are poorly managed, and the Freeholder will have no control over when payment will be received.
“Where there is a RMC/RTM, maisonette/house lease, while the lease does not reserve a service charge (managed by the Freeholder) or there isn’t one, and if the Freeholder will need to recover those costs directly from the leaseholders, the lease does not provide for the Freeholder to recover those costs. Additionally, while payments maybe due, many leaseholders are unlikely to understand the costs incurred in owning a freehold property, the insurance work undertaken and will not want to pay costs in addition to their current service changed account (if one exists). This would represent a total rewriting of the lease arrangements. The Freeholder will need to recover the costs they incur in relation to buildings insurance, and/or costs for simply owning the Freehold. Under many leases, many Freeholders currently have no means to recover those costs. However, it is likely the costs to the leaseholder in many cases will increase.”
If you are a Leaseholder or a Freeholder and would like to discuss Leasehold Reform Valuation, please contact me direct via email at clive@scrivenertibbatts.co.uk or call 020 8947 7040.
