Freeholders’ development rights stand in the way of leaseholder enfranchisement – and the future of commonhold

The silence over leasehold reform – from government and, indeed, from us – is due to the looming clash in the courts over the freeholders’ legal challenge to the loss of their enfranchisement income under the 2024 Leasehold and Freehold Reform Act.

The judicial review is to be heard in July, but the issue will likely go on for a good deal longer.

So the enfranchisement elements of the 2024 Act, which depend on secondary legislation, are essentially stalled, and so is progress on advancing commonhold. We are supposed to be getting a draft Bill in the autumn, but it will be of theoretical interest until freeholders’ dead hand on the enfranchisement racket is prised off.

Below, economist Alexander Hamilton considers another impediment: freeholders’ development rights, and that’s leaving aside the boost handed to them by housing secretary Robert Jenrick’s two-storey permitted development give-away:

Has Jenrick just handed £1bn each to Astor, Tchenguiz and Wallace Estates with two-storey planning gift?

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By Alexander Hamilton

Dr Alexander Hamilton is an economic adviser and development economist at the UK’s FCDO, where he specialises in the economies of the Middle East and North Africa. He writes on the economics of leasehold in a private capacity and the views in this article are his own.

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If existing leaseholders are to benefit from the move towards commonhold ownership, then the cost of collective enfranchisement (CE), which is a prerequisite for the conversion of leasehold flats to commonhold, needs to be carefully considered.

If it is prohibitively expensive to collectively enfranchise then many existing leaseholders will not be able to benefit from the move towards commonhold. In such a scenario, this could result in existing leaseholders being adversely impacted by the introduction of commonhold, as a two-tier housing market would develop over time, with leaseholder properties increasingly devalued vis-à-vis their commonhold equivalents.

The existence of development value could prove to be a prohibitive cost for a large minority, or possibly even a majority of leaseholders. This was something recognized in the debates surrounding the passage of the Leasehold and Freehold Reform Act (2024) but a proposed amendment to deal with this issue was not incorporated in the final version of the Act.

Having recognised that development value could raise the costs of collective enfranchisement the Law Commission has provided provided recommendations for dealing with development value in order to make CE more affordable.

Using publicly available data, we model the impact of development value for a ‘typical’ leasehold block of flats.

Our analysis shows that the existence of development value (manifest as the possibility of building more units) makes CE prohibitively expensive for the ‘average’ or ‘typical’ leaseholder.

In fact, even where leaseholders could benefit from the compulsory leaseback of non-participating units by the existing freeholder, the cost of development value dwarfs any savings achieved via this mechanism.

It is impossible to know what proportion of leasehold properties are affected by significant development value.

However, many leasehold dwellings (approximately 63%) were built between 1948-2014, and may therefore contain significant development value due to the stipulations of of The Town and Country Planning (General Permitted Development) (England) (Amendment) (No. 2) Order 2020:

https://www.legislation.gov.uk/uksi/2020/755/contents/made

While there are many exceptions to this regulation (there are location, height and structure, and prior approval exceptions), a significant minority or even a majority of leasehold properties may be affected.

Furthermore, a proportion of leasehold properties built before 1948 or after 2018 will also contain significant development value. This could mean that the majority of leaseholders would face prohibitive costs to collectively enfranchise and therefore, benefit from the possibility of conversion to commonhold.

A solution to this problem would be to implement the Law Commission’s recommendations regarding development value:

https://webarchive.nationalarchives.gov.uk/ukgwa/20250109172105mp_/https:/s3-eu-west-2.amazonaws.com/cloud-platform-e218f50a4812967ba1215eaecede923f/uploads/sites/30/2020/01/Enfranchisement-Valuation-Report-published-9-January-2020.pdf

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DETAIL

Development value can affect the price of CE as, in the presence of ‘development potential of the land being acquired’ [Law Commission (2020) Report on options to reduce the price payable. Law Commission: London, p.35] this factor needs to be considered when the premium payable is being calculated. Development value is particularly likely to be relevant in the case of leasehold flats [ibid].

In its Residential Leasehold and Commonhold Report (2020)

Leasehold enfranchisement

the Law Commission recommended a mechanism for eliminating the cost of development value when undertaking CE. Specifically:

‘…leaseholders could be given a power to decide to accept a restriction on future development of their block when they acquire the freehold. If they chose to accept that restriction, they would not have to pay the landlord any development value in the enfranchisement claim – so their enfranchisement premium would be reduced. If the leaseholders subsequently decided that they wanted to develop the block and therefore “realise” the development value, they could negotiate with the former landlord to release the restriction. They would, at that stage, have to make a payment to the former landlord in respect of the development value. [ibid]’

Practically this remedy would possibly require the Land Registry to develop a new restriction on deeds.

However, this should not be an insurmountable issue. For example, the Land Registry was able to develop a restrictions for the disposition of land owned by charities in England and Wales following the passage of the Charities Act (2011).

https://www.legislation.gov.uk/ukpga/2011/25/part/7/crossheading/restrictions-on-dispositions-of-land-in-england-and-wales

The potential impact of development value on a ‘typical’ leaseholder in a block of flats

It is difficult to know, a priori, what proportion of leaseholder properties could be affected by development value. However, we can use a hypothetical case of a representative leasehold building to explore the potential impact of development value on CE- either as an end in itself or as the first step to conversion to commonhold.

We can use data from LAFRA’s Impact Assessment, the Land Registry, English Housing Survey and the MHCLG’s Planning Portal to generate an ‘average’ leasehold property in a ‘typical block’ of flats.

Specifically:

1) The average ground rent for leaseholder properties in England is £300 [There is considerable uncertainty over the average ground rent in England, with samples from the English Household Survey yielding estimates that fluctuate and range from £200 in 2016 to £419 in 2023. So, we use £300 as an approximate average.]

2) The average cost of a flat in England is £230,000 [in April 2024] – let us say £253,000 after lease extension using current deferment and capitalisation rates.

3) The average approximate length of remaining time on leases in England is 110 years [According to the LAFRA Impact Assessment p.127 the median leasehold property has between 99-125 years left on the lease- so the average is 112, which we round to 110 years remaining.].

4) The average number of units in a block of flats in England and Wales is, very approximately, 35 per building. [This is the most uncertain estimate, according to the Building Safety Programme: estimates of EWS1 requirements on residential buildings in England – GOV.UK the average units in a building of 11-18 meters high is 19 units, while in buildings over 18 meters it is approximately 58 units- this averages to 38. However, as buildings over 18 meters are much less likely to have development value we round this number down to 35 units.]

5) The average block of flats was built in 1955 [The mid-point between 1945-1955 when, approximately, the median household, still in used in 2014, was built based on the English Housing Survey 2014-2015].

Let us assume that we have a ‘typical’ block of 35 leasehold flats, all with a ground rent of £300 p.a., 110 years left on their leases, and all valued at £253,000 once their individual leases are extended via the statutory route.

For simplicity, we assume that the premium payable for a lease extension approximates the cost of the (per leaseholder) premium payable for collective enfranchisement.

Thus, we calculate that the average cost, for each unit to participate in the CE process is £8,000.

We can now look at the impact of development value on the cost of CE and compare this to the relative cost saving of compulsory leaseback of non-participating units. Specifically, in Table 1 below we consider the following cases:

1) The cost of CE assuming no development value and full participation of all leaseholders in the CE process.

2) The cost of CE assuming only 80% of leaseholders (28 of 35 flats) participate in CE and participating leaseholders share the costs of non-participating leasehold units.

3) The cost of CE assuming only 51% of leaseholders (18 of 35 flats) participate in CE and participating leaseholders share the costs of non-participating leasehold units.

4) The cost of CE assuming full participation of all leaseholders and development value equivalent to 10 more units being built (assuming each is also worth £253,000).

Table 1 shows that, even in comparison to a situation in which the bare minimum number of leaseholders participate (Column 4), and the cost reduction of compulsory leaseback on non-participating units is thus very high (worth £7,556 per participating leaseholder), reducing the costs of participating leaseholders by almost 50% (from £15,556 to £8,000), the development value costs per leaseholder of 10 more units (Column 5) is almost 10 times greater than the cost saving of compulsory leaseback (£72,000 vs. £7,556).

Of course, the example above is hypothetical, albeit one trying to show how development value could affect a ‘typical’ leaseholder block. We can use real world examples to see if this theoretical example is consistent with actual outcomes.

What proportion of leaseholders could be affected by development value?

While it is impossible to know exactly how many leasehold buildings may be affected by development value, we can start by using data collected by the English Household Survey of 2014-15 that includes data on the age of dwellings in England, coupled with data from the English Household Survey 2021-2022 that suggests that 21% of dwellings in England are leasehold to obtain a crude estimate of how many leasehold dwellings are likely to have been built between 1948-2014, and therefore possibly have development value due to the stipulations of The Town and Country Planning (General Permitted Development) (England) (Amendment) (No. 2) Order 2020.

According to the 2014 survey approximately 63% of leasehold dwellings were built just before or after 1948 and therefore likely to contain significant development value [In the model we assume that the rate of leasehold building is constant across time. That is 21% of dwellings in each decade were leasehold. This is likely an underestimate of leasehold buildings, which are more likely have increased, as a proportion of new builds, in the later decades of the century.]

Of course, this crude estimation is likely to overestimates the likelihood of leasehold properties contain significant development value. This is because the 2020 Order contains exemptions, for examples buildings where adding a new floors would result in the building being more than 18 meters high are exempt, or buildings in conservation areas or listed buildings are not affected by the Order.

However, this crude estimation also underestimates other instances where development value may exist. For example, a considerable subset of buildings constructed before 1949 or after 2018 are also likely to have development value.

Real world examples of how development value made CE financially impossible.

Consistent with our hypothetical example above, there are multiple real-world examples of how the existence of development value, by adding hundreds of thousands of pounds to the cost of CE, has made CE impossible for leaseholders.

This includes the case of Baroness Andrews, who proposed an amendment to deal with the issue of development value when the 2024 Leasehold and Freehold Reform Act was being debated and recounted how, in the case of her building, development value meant that the premium payable for CE went from an estimated total cost of £750,000 (no development value) to £1,750,000 (with development value).

Another famous case is the Cambrai Court case, here development saw the initial estimate for CE increase by £200,000 vs. an original (non-development value estimate) of an enfranchisement premium of £24,500 for the property.

Risk to leaseholders and possible remedy

There is a real risk that a significant minority or, quite possibly a majority of leaseholders could find CE and conversion to commonhold impossible due to the financial implications of the existence of development value.

Policymakers wishing to prevent this may wish to consider implementing the recommendation of the Law Commission, with respect to development value, in the new Leasehold and Commonhold Reform Act . It might be possible to use the Land Registry ‘restriction on deeds’ developed for the disposition of assets owned by charities in the 2011 Charities Act (2011) as a blueprint for implementation.