Entering the world of Leasehold Reform can be a daunting and confusing journey. We attempt to explain some of the common terms and valuation factors that are often used when discussing this subject.
First things first, Do I Qualify?
There are three issues that need to be addressed:
Does the building qualify?
Does the lease qualify?
Does the tenant qualify?
In order for the building to qualify, it must be a ‘house’. But, there must be no material over or under-hang with an adjoining building (if there is, then it is likely to be a flat).
The lease must comprise the whole of the “house” and it must be a long tenancy, i.e., a lease with an original term of more than 21 years. However, if it is a business tenancy, then it will not qualify if it is for an original term of 35 years or less.
The tenant must have owned the lease of the house for a period of at least two years before the date of the claim.
Prior to the 2002 Act, it was also necessary for the tenant to occupy the house as his only or main residence for a three year period. The residence test has now been abolished save in limited circumstances.
If a house is mixed use so that there is a business tenancy (for example a building comprising a shop with a flat above) or if the house includes a flat which is subject to a qualifying lease under the 1993 Act then the tenant is still required to fulfill a residence test.
The residence test is that the tenant has to occupy the house as his only or main residence for two years or periods amounting to two years in the preceding ten years.
These are set out in section 9 of the 1967 Act.
Section 9 of the 1967 Act provides for one of three methods of valuation to determine the price depending on the rateable value of the property. The relevant method of valuation is either that set out in s9 (1) or that set out in s9 (1A) and 9(1C).
Relativity is the expression as a percentage of the difference in value between a short lease and an effective freehold (i.e. one with a 999-year lease at peppercorn rent or “Share of Freehold”). The higher the rate, the lower the premium. The calculator works off a general trend-line of many published graphs. The RICS (Royal Institution of Chartered Surveyors) in 2009 produced graphs of relativity. The higher the rate, the lower the marriage value in the premium.
There must be disregarded any increase in value of a house held by a tenant which is attributable to an improvement carried out at his own expense by the tenant or any predecessor in title. There is a significant amount of case law on improvements.
Repair of worn out items would not qualify as improvements. Case law suggests that structural works are required such as structural works including the strengthening of kitchen units to facilitate the installation of granite worktops and the like. Simple replacement with a modern day equivalent would be improvement.
The valuation of the house is in its existing condition: there are no repair assumptions, unlike the 1993 Act for flats. If the house is dilapidated it is valued on this basis.
This rate is used to calculate the Years Purchase multiplier to generate the present day value of the ground rent. There are LVT decisions ranging from 5% to 10%. This variance depends on the level of rent and the frequency and the amount of the review. There are properties in prime central London (PCL) where the level of ground rent is a proportion of the market value or annual rent if the house is let on a short term tenancy, such as an AST. The calculator solely works off 7%. The higher rate, the lower the premium.
“The Non-Act World” and Other Matters
The valuer should also consider in short lease properties the risk of an assured tenancy at the end of a lease. There is a provision in the Act and ancillary Acts for a tenant to remain in possession after the lease ends, at a rent.
The type of tenancy at the end of the lease will depend on historic rateable value (or in the case of newer build flats, the value of R). If a tenant lives at the property and there is sufficient risk of a tenant remaining, it may be possible to reduce the value of the premium significantly.
Statute says that you need to assume that the value of the short lease is in the “no Act world”, in other words, before you had the right to buy your freehold.
Consider how much you would discount the value of a leasehold property if you were never able to buy your freehold. The decision in the Nailrile case was that the relevant discount for the “benefit of the Act” was 7.5% for a 44-year lease.
In the market you can extend your lease because of the 1993 Act. Therefore, it is necessary to consider how much of a discount there needs to be to reflect this right. The calculator works of the value off the existing lease (i.e. the short lease). If you have entered the market value of your short lease, you need to discount this. This will reduce the premium.
Consider how much you would discount the value of a leasehold property if you were never able to obtain a lease extension or buy your freehold. Re-try the calculator discounting the short lease value, for example:
By 2.5%-5% for a 60-80 year plus lease;
By 5-10% for a lease between 45 and 60 years;
By 10-15% for say 30 to 45 year lease; and
By 15-35% for shorter leases.
Deferment or Discount Rate
Prior to Sportelli (2006-2008) this varied through out the country and throughout central London. This case introduced the concept of a generic (nation-wide and property-wide) rate of 5%. Over night most premiums adjusted upward by 5%. We consider that 5% is the applicable starting point in light of Alexander Voyvoda and (1) Grosvenor West End Properties (2) 32 Grosvenor Square Ltd LRA/52/2012;  UKUT 0334 (LC). Our calculator only works off 5%: The higher rate, the lower the premium.
Important Note on Associated Costs:
In the event that tenants exercise their right (serve a Notice) under the 1967 Act, the tenants will be liable for the landlord’s reasonable costs in determining the premium payable (valuation costs) and those of the landlord’s solicitor in respect of dealing with the notice and in the event of the matter proceeding, the conveyancing costs. The tenant is liable for these whether or not the tenant proceeds (save as to the conveyancing costs).
In the event that the matter proceeds to a First-Tier Tribunal, both sides bear their own costs relating to the Hearing. As with the determination of the premium, the Ft-T can assess the legal and valuation costs.
Each party will also be responsible for their own costs during negotiations in most instances.
Extending the Lease
The 1967 Act also allows the qualifying tenant of a house to take an extended lease of the house for a term of 50 years to expire after the term date of the existing lease at a modern ground rent throughout the extended term and without payment of a premium.
This right has been little exercised in recent years but following the 2002 Act all tenancies extended under the 1967 Act now have security of tenure.
Furthermore, the tenant under an extended lease now has the right to acquire the freehold, if he otherwise fulfills the qualifying conditions; in such cases, the purchase price will be determined in accordance with section 9(1C) but with modified assumptions.
In relation to the modern ground rent this will be a percentage of the site value. For example:
Building value: £1,000,000
Site value: £450,000
Modern ground rent: at 6% £27,000
The other advantage here is that the rent review does not occur until the end of 25th year.
However you will need cross-reference to the rateable value limits.