By Liam Spender
Liam Spender is a Trustee of the Leasehold Knowledge Partnership. Liam is personally affected by the cladding scandal. Liam is a Solicitor-Advocate and Senior Associate at Velitor Law practising commercial litigation and arbitration in the City of London. Views in this article are personal and do not constitute legal advice. Liam is unable to take individual cases or to give legal advice to individuals.
Today the government tabled a further package of amendments to the Building Safety Bill. The Bill is expected to have its Report Stage in the House of Lords on Tuesday, 29 March 2022.
As with the last set of amendments – the so-called Valentine’s Day Amendments – the changes to the Building Safety Bill are highly technical.
The latest round of changes are a welcome step forward, albeit a smaller and more incremental step than that taken on 14 February. But more is required to resolve the present crisis.
The government’s intention is that this revision of the Bill at this late stage will solve the problem for the overwhelming majority of leaseholders. The data supporting that intention have not yet been made public.
Many leaseholders are concerned that the latest changes do not go far enough. Leaseholders in buildings under 11 metres still get no help. The changes only apply to leaseholders in buildings 11 to 18 metres tall. Leaseholders in Wales will also have to wait for help from the Welsh Government.
The changes still leave leaseholders in 11-metre plus buildings on the hook, albeit as a last resort, as opposed to being (in most cases) the only party liable to pay. It is unclear where the money will come from if leaseholders are expected to pay capped contributions that do not cover the full cost of works. The same concern arises where there are many buy-to-let landlords in the same building.
Leaseholders hearing the latest evidence from the Grenfell Tower Inquiry are bewildered as to why they should pay anything. The Inquiry is currently hearing evidence that the government knew for at least 20 years before Grenfell of the dangers of cladding and yet did nothing to prevent it becoming a widely used material.
The construction and cladding industries must also take a substantial share of the blame. However unclear the regulations, the construction industry was conducting the orchestra. The industry lobbied for looser and looser regulations. The industry then resolved any question of judgment on the regulations in favour of its own commercial interests.
As for the cladding manufacturers, the Grenfell Tower Inquiry has already revealed internal documents showing they were aware of the dangers of cladding. Some of them rigged tests to ensure their products reached the market. They have no moral basis on which to resist the imposition of a large share of responsibility.
While there are new, and sharper, tools in the latest package of amendments, they still rely on litigation to bring developers and cladding manufacturers to book. Some of this litigation can be carried out by local authorities or the government. The question is: will it be done?
Other concerns are how long implementing these new principles of remediation will take in practice. That is a pressing, if not financially existential, question for the many hundreds of blocks paying increased building insurance and waking watch costs while they wait for the future of their homes to be decided.
Another significant, and welcome, change is the removal of the Building Safety Charge and the Building Safety Manager from the Bill. These ill-conceived ideas began in the Hackitt Report into Building Safety.
If enacted, they would have led to separate service charges being levied under the supervision of a Building Safety Manager, who would be responsible for ensuring buildings above 18 metres (or with more than 7 storeys) met an onerous new continuous safety regime. The danger was this would become a lucrative make-work scheme for managing agents and their client contractors.
That risk is not theoretical. Some managing agents have already started raising service charge demands including Building Safety Manager costs, one with both a Manager and a Building Safety Coordinator, despite the fact that the Bill is not yet law.
The government has seen sense and decided not grant firms of large managing agents a further licence to print money on the backs of leaseholders.
The Building Safety Charge and Building Safety Manager will be little missed, except perhaps in terms of the estimated fees large managing agents undoubtedly expected to generate from the role.
The danger is that the reclusive private equity barons and obscure family offices who own some of the largest managing agents, having imagined they were to be gifted a lucrative new leasehold profit centre, will be tempted to re-badge the Building Safety Manager and extract the money from leaseholders anyway. The price of deleting these parts of the Bill may yet be eternal vigilance on the part of leaseholders.
Eternal leaseholder vigilance is no easy task when large managing agents routinely flout the law requiring accounts and documents to be produced to leaseholders, not to mention the endless shell games of employing different categories of accounting for expenditure to make year-by-year comparisons impossible.
We hope for significant improvement in leaseholder rights in the promised leasehold reform measures due in the next session of Parliament, expected to start in May 2022. It is encouraging that this point already seems to be reflected in the latest amendments, which require landlords to give information about their liability to pay costs under the government’s “waterfall arrangement”. They are to be banned from recovering any costs unless they comply.
The detail of the 14 February amendments was examined in my last piece on the bill, which is available here:
The latest amendments are here:
The Bill as revised at Grand Committee is here:
In this piece, we look at the changes announced on 23 March 2022.
Summary of the position before the latest changes
The government’s waterfall approach continues to form the centrepiece of the leaseholder protection regime. In simple summary, this involves rewriting Landlord and Tenant law so that the leaseholders become the last port of call, instead of the first.
The iniquitous nature of Landlord and Tenant law in England and Wales means that, despite not owning a brick of the building, leaseholders are the first port of call for any costs that go with the building.
Most modern leases have a form of words that involve paying for the costs of “maintaining, repairing, reinstating, improving or treating as necessary”.
That form of words is interpreted as meaning that leaseholders must pay for inherent defects – issues the building has had since new – as well as for the routine maintenance and upkeep.
The result of the mechanical application of that legal wording has been untold financial misery for millions of leaseholders across England and Wales.
This disaster has shone a harsh light on the economic and moral absurdity of leasehold. The legal owner of the building has no responsibility for meeting any of the costs of the upkeep, yet has all the decision-making power over how that money is spent. These landlords, and their agents, routinely help themselves to generous fees and commissions. It is classic rent-seeking behaviour.
Unsurprisingly, these rent-seeking owners – who like to brand themselves “long term custodians” – have resisted paying a penny piece toward remedial costs, preferring to rely on their strict legal rights, in some cases up to and beyond the point of bankrupting their tenant leaseholders.
In some cases, these owners have insisted on enforcing their legal rights to the letter even where they built the buildings in question.
Under the waterfall approach, the government tosses aside economically and morally absurd contractual obligations of leaseholders. Instead, the government imposes a different regime. The government intends that no leaseholder in any building above 11 metres tall will pay anything for cladding costs.
The government’s intention is that the cladding costs will be met either by the original developers, cladding manufacturers or construction product manufacturers, or by taxpayer grants.
Before passing on any non-cladding costs to leaseholders, the party seeking to levy a service charge demand must first go through the three levels of the waterfall.
The top level of the waterfall consists of developers, construction firms, cladding manufacturers and construction product manufacturers. They are either expected to reach a deal with the government to pay to make good all buildings they have ever “developed”, or can else be compelled to pay by the courts under new legal powers called Remediation Orders or Remediation Contribution Orders.
The top level of the waterfall includes certain associates of the developers. The High Court has the power, if it is satisfied that the association test is met, to order the associate to pay.
Where the building owner is, or was, associated with the developer, then the law is changed so that no service charges can ever be collected from leaseholders for cladding or non-cladding costs.
If the top-level produces no money, or insufficient money, then the second-level of the waterfall is triggered. At that level sits the “building owner”.
The definition of “building owner” is problematic because it encompasses anyone with an obligation to maintain the common parts of the building. That would include, for example, Resident Management Companies and Right To Manage companies.
We can see from the 23 March amendments that these “building owners” will be subject to a new means test, which looks at whether they have a certain number of affected buildings worth more than £2 million.
If the second-level of the waterfall produces no, or insufficient money, then the final layer of the waterfall is triggered. At this layer sits the leaseholders.
If this layer is triggered, leaseholders outside London may have to pay up to £10,000 toward non-cladding costs. Leaseholders within Greater London may have to pay up to £15,000 toward non-cladding costs. Higher thresholds of £50,000 and £100,000 apply for properties valued over £1 million and over £2 million.
The leaseholder contributions are pro-rated for shared ownership leaseholders so that they only pay in the same proportion to their interest in the equity of the property. A shared owner with a 25% share of a £400,000 property in London would therefore only pay £3,750.
Leaseholders who have already paid remediation, waking watch or other types of prescribed costs are allowed to set-off those costs against their contributions. If leaseholders have already paid £10,000 in prescribed costs then they will not have to pay anything for non-cladding costs. It is, however, unclear where the necessary money would then come from, because the leaseholders only pay as a last resort. Does this hint at some future government grant?
The government’s intention is that these costs would be automatically spread over five years. It is unclear how works requiring leaseholder contributions would be carried out, because typically managing agents do not start works unless all, or substantially all, of the necessary money is available when the works begin.
Unless there are sufficient reserves, or bridging finance can be arranged, to ensure the necessary money is available up front, it is unknown how works will be completed.
What has the government done today?
The fundamental features of the waterfall regime remain in place following today’s amendments.
Following concerns raised during committee stage in February and March 2022, the government has made further significant revisions to the Bill, as follows:
- Further changes will be made to introduce legal rights to pursue developers for costs leaseholders have already paid for remediation and waking watch costs, as well as to force the developer to pay for remediation costs. Although welcome, this will only be of use if there is a developer still around to sue, with leaseholders willing to assume the expensive, time-consuming and emotional burden of complicated litigation against a well-resourced opponent.
- Leaseholder contributions caps are to be subject to floors of £175,000 outside London and £325,000 inside London. Flats valued at less than either of these amounts would not have to pay anything.
Again, while welcome, the method of discovering value is flawed. The amendments say the value may be determined by taking the last price or, where the last sale was before 2022, taking the last price and adding on inflation determined by some measure to be specified later. This may produce values for the purposes of the caps that are far out of line with the open market value of the flats, even after the works are done.
- The costs that can be set-off against the leaseholder caps are also to be broadened out to include the costs of EWS-1 and other surveys paid in the last five years. Legal costs and other professional fees will also be set-off against the caps.
- Leaseholder contributions, if required and not already set-off in full against the prescribed costs discussed above, will be scheduled over 10 years instead of 5 years. Again, unless the person responsible for signing the works contract can arrange bridging finance, it is unclear how this will enable works to proceed.
- As above, the Building Safety Charge and Building Safety Manager provisions are removed from the Bill. As also above, it remains whether this change is too late to stop the industry hounds whose noses are already blooded to the scent of profits to be made by years of talk of the need to “upskill” on building safety. Further guidance, perhaps embodying a duty to promote best value for leaseholders, may yet be required to keep the industry in check.
- The Accountable Person duty remains. This being the heavy responsibility – enforced by the criminal law – to ensure that all buildings over 18 metres tall or over seven storeys comply with the new Part 4 occupation regime in the Bill. The scheme of Part 4 is fundamentally flawed, being more suited to a dangerous industrial installation than a residential building.
- The Accountable Person duty is softened in relation to resident controlled companies. They are to be allowed to appoint a professional director to oversee the discharge of the accountable person function. For the reasons explained below, this may not work to protect leaseholders in practice.
- The anti-forestalling protection – which restricted the non-cladding protections to leaseholders in occupation on 14 February 2022 – is unchanged. It is therefore still unclear if buyers can benefit from the protections, although the government previously clarified that it was its intention that buyers would so benefit.
- Protection for buy-to-let landlords is also expanded from two properties to three, being the principal residence plus two buy-to-let properties. As with the previous incarnation of this provision, this means someone with three affected flats would only pay one leaseholder contribution for all three. As also with the previous incarnation, the protection is all or nothing. Someone with four affected flats has to pay the individual contribution on all four flats, and does not get the protection for the first three.
It remains to be seen whether these caps will hinder getting remediation done in buildings with many buy-to-let landlords. If those landlords have three properties each, this will reduce the money available to do non-cladding remediation. If the landlords cannot afford the costs because they have more than 3 properties, it will also delay remediation.
- Disabled leaseholders are to be given automatic representation on the Building Safety Regulator’s tenant voice panel. It is hoped that this will ensure that disabled people’s needs are taken into account properly in future guidance.
- There are a host of technical changes to the detailed legal mechanics of how the waterfall regime will operate. This includes making partnerships at will and limited partnerships – which are often used as part of property holding structures – liable at the “building owner” level of the waterfall. This closed a loophole that may have allowed some large institutional owners – Aviva was mentioned during Grand Committee – to escape having to pay. Further technical changes are made to expand the means test to the landlord’s corporate group.
As discussed below, there is still a loophole in the waterfall arrangements. They will not capture landlords who are trustees or custodians of assets on behalf of third-party ground rent investors. Examples of such structures include the ARC Time Freehold Fund and the Ground Rent Income Fund. There will be many others.
Where do these changes leave us?
To be fair to the government, we are a long way further forward from where we were even in January 2022. We are, however, still too far away from the end of this crisis.
Many of the issues apparent in the St. Valentine’s Day package of amendments remain in the amendments announced today.
- There remain serious doubts over how the capped leaseholder contributions, and restrictions on support for Buy to Let landlords, will affect the mechanics of achieving remediation works in reality. If a building cannot produce the money required to do the works, it will never be remediated.
- It is still unclear whether banks and insurers have bought into the reforms. Their collective negative response to previous government interventions has exacerbated the crisis. If they do not support the changes, very little will change in relation to crippling insurance costs and the sclerotic market for selling flats.
- The shadow of PAS 9980 and the yet-to-be commenced Fire Safety Act 2021 hangs over the current package like a pall. When commenced, perhaps later this year, the Fire Safety Act will require an annual inspection of the external walls of every building containing two or more sets of domestic dwellings.
PAS 9980 is supposed to result in a more proportionate assessment of the fire risk posed by external walls. Some industry commentators have suggested that PAS 9980 will have the opposite effect, because it is merely a hundred-plus pages listing all the ways a building can fail an external wall assessment, as opposed to an objective system of assessment.
In the worst case scenario, it may be the case that assessors being asked to sign these annual external wall assessments insist on performing intrusive inspections every year to verify the composition of the wall.
There has also been much legal sabre-rattling from both developers and some freeholders over the changes proposed by the government. We may yet seen challenges on Human Rights Act / European Convention of Human Rights grounds if developers, cladding manufacturers and freehold investors are forced to pay toward remedial costs. Any such challenge will delay remediation.
The risks in relation to developers may be somewhat reduced as a result of the powers the government has put into the Bill to enable it to lawfully block grants of future planning permission to developers who do not cooperate.
What about resident owned companies, like Resident Management Companies or Right to Manage companies?
The government continues to treat “building owners” as anyone responsible for collecting a service charge for maintenance of the common parts.
That definition includes resident-owned, or resident-controlled sites. If they are deemed to have sufficient financial means, they may be forced to collect money from their leaseholder shareholders in excess of the proposed caps to meet those obligations.
Leaseholders in buildings where the collective right of enfranchisement under the Housing, Leasehold and Urban Reform Act 1993 are excluded from the protections. As are leaseholders who own their buildings under compulsory acquisition orders, or the various rights of first refusal, under the Landlord and Tenant Act 1987.
Viewed as buildings, that puts them on a par with buildings owned by third-party investors. For the leaseholders in those buildings, it means confusion and doubtless a call for an uncapped injection of funds into the company owning the freehold or headlease in question.
Aside from it being unjust to treat enfranchised leaseholders this way, it also potentially undermines the government’s attempt to encourage more buildings to become leaseholder owned and operated.
But won’t being able to appoint a professional director to deal with accountable person duties help?
The simple answer is “no”.
A company will become an accountable person if, under the terms of the lease, it is responsible for maintaining the common parts of the building. The company itself will then owe the duties imposed on an accountable person under Part 4 of the Bill.
The duties under Part 4 are wide-ranging and onerous. They range from registration requirements, duties to provide information to residents and the regulator, require the preparation of a safety case and extend to an obligation to perform works if any “building safety risks” are identified.
It is the onerous nature of the accountable person’s duties under Part 4 that may yet see managing agents sneak in re-badged Building Safety Managers and Building Safety Charges to justify what they will claim is a radical expansion of their duties.
In fact, most of the Part 4 regime is already performed by managing agents under existing legal provisions.
Clause 105 provides that a company contravening a relevant requirement of Part 4 may be held criminally liable.
Clause 151 extends this criminal liability to officers and directors of companies serving as accountable persons.
Directors are agents of their companies. Provided the directors act in accordance with their duties, the company is responsible for the acts of its directors.
Directors are entitled to look to the company to be indemnified from the costs of claims brought by third-parties, such as these. Typically companies arrange insurance, or offer Qualifying Third-Party Indemnities, to protect their directors.
A professional director appointed by a company will therefore be looking to the company to indemnify him from any third-party liability he may incur in his duties.
Where in effect, Qualifying Third Party Indemnity Provisions under the Companies Act 2006 explicitly preserve the right of a company to pay its director’s legal fees in a criminal case, provided the director is not ultimately convicted.
A director who is charged alongside the company will doubtless argue that he did not breach his duty to the company. Whilst that dispute between the director and company is going on, the company – or its insurer – may still be called upon to meet the director’s legal costs of defending the prosecution.
It is possible to appoint a company (or another body corporate) as a director of another company, provided that there is at least one natural person serving as a director at all times.
Appointing a company would not solve the potential agency or indemnification issues outlined above, but it may open up insurance options if the company appointed as director has a specialised business in providing such services. That would be a question for the insurance market to resolve. To date insurers have proven less than helpful in relation to building safety issues.
The government’s intention appears to be that the professional director will be a company that will arrange its own insurance to be able to take on the duty. It is unknown if there will be an insurance market for such companies, or companies willing to enter the business.
Considering the potentially circular nature of the company’s obligations to its directors and the directors’ obligations to the company, it may still be the case that having a body corporate serve as a professional director does not solve the problem.
It is also unclear how large institutional investors, such as pension funds, will react to the accountable person regime. They may not have understood that the duty cannot be delegated to managing agents, who are often currently designated as responsible persons under the Fire Safety Order.
Where the institutional landlord is a professional custodian or depository, it may not be possible to appoint another director, whether or not a body corporate, because of the potential duty to indemnify the director appointed. That may not be compatible with their FCA obligations.
Instead of appointing a professional director, the government would do well to look again at Lord Best’s proposal to enable the duty itself to be delegated to a specialised third-party provider by resident-owned or controlled buildings, and potentially those held by trustees or custodians in investment structures.
What about the trustee loophole?
This is potentially serious issue with the new package of amendments.
Many buildings are owned on trust – by professional depositories and custodians regulated by the Financial Conduct Authority – on behalf of third-party investors.
The custodian or trustee is the landlord in this arrangement. Normally these companies are dormant companies that do not trade at all to avoid any risk of insolvency, which would jeopardise the assets. They have no means, apart from the leaseholders’ money, to meet their obligations under a lease.
These trustee landlords do not meet any of the association tests in the new drafting. This is deliberate, in order to comply with the FCA’s rules. They do not meet the tests because they do not share directors with, and are not owned or controlled by, the beneficial owner of the assets. They are merely trustees.
Unless the drafting is changed to capture such trustee arrangements, leaseholders in affected buildings – in the ARC Time case those with F.I.T Nominee and F.I.T Nominee 2 Limited as their landlord – will find that the waterfall skips over their landlord. The beneficiary of the income from the building, in this example the ARC Time Freehold Fund, will escape liability under the waterfall.
In February 2022, the ARC Time fund estimated it had 8% of its worth, about £19 million, invested in an unspecified number of buildings over 18 metres with cladding issues. It also has an unspecified number of buildings where residents’ control the maintenance with similar issues. All of those buildings will be left out under the current drafting.
Similar issues will arise in relation to other funds with large residential elements, such as the Ground Rent Income Fund. Some pension fund structures with ground rent investments may also deploy trustee structures to comply with the FCA rules.
Many thousands of buildings may be affected by this apparent loophole.
Will the caps lead to unfairness even with the floors?
Yes, undoubtedly so.
Someone with a flat worth £175,000 outside London will pay zero, but someone in the same building with a flat worth £177,000 may have to pay £10,000. The flats may be next door to each other.
The issue highlighted in my previous article also remains, even with a £175,000 exemption outside London, that leaves a value band of £825,000. Someone with a flat worth just over the £175,000 threshold may have to pay the same £10,000 as someone with a flat worth £350,000 in the same building.
The same applies in London, where the exemption is £325,000, or a £675,000 value range. Again, flats with widely different characteristics in the same building may be paying exactly the same £15,000 contribution.
While the exemptions are welcomed, because they reduce the burden on those likely to be less able to pay, it would be far better if the government smoothed out the effect of any leaseholder contribution.
The simplest way of smoothing out contributions would be on the basis of a percentage. A percentage of 1% or 2% across the entire value range, including above £1 million and above £2 million, would be a simple and effective way of achieving this.
A more complicated way of achieving the same goal would be to put more steps in the value bands, so flats in closer bands of value paid similar amounts, as opposed to the leaseholder of a penthouse potentially paying the same as the leaseholder of a studio.
As indicated above, depending on how the value of the flats is determined, we may see people being charged on the basis of values far outside what could be achieved on the open market, even if the flats had no cladding or fire safety issues.
What happens now?
The government’s amendments will be considered, and most likely voted on, by the House of Lords at Report stage on Tuesday, 29 March 2022.
What is Report stage?
Report stage is the penultimate stage of proceedings in the Lord. The full House of Lords considers the Building Safety Bill and, unlike in Grand Committee preceding it, may vote on amendments.
The voting aspect is crucial. The government has a large majority in the House of Commons but has no majority in the House of Lords. The Lords can therefore insert amendments that the government does not want.
The package of amendments being debated by the Lords has never been considered by the Commons. Usually the government makes concessions such as these during the Commons stages and the Lords defers to the Commons as the elected house.
In this case, the Lords may feel they have more right to challenge the government because the elected Commons has not had, and probably will not have, the chance to hold the government to account. That should make the votes in the Lords interesting.
What happens after Report stage?
After Report comes Third Reading, the final stage of consideration. Theoretically the House of Lords can amend bills at Third Reading. In practice, the major differences on most bills are resolved during Report.
The Building Safety Bill may be one of the exceptions. Several peers have indicated that they will keep pushing for better leaseholder protection.
If the government does not make further concessions, as with the Fire Safety Bill, we may yet see further amendments going in at Third Reading.
Does the Bill have to be passed soon?
Yes, time draws short for the government to pass the Building Safety Bill before the end of the current Parliamentary session, expected around the end of April 2022.
The Bill must be passed by the end of the current session, otherwise it will fail and the government will have to start again in the new session of Parliament. This imposes enormous time pressure on the Lords, which is currently considering five other bills at Report stage.
The next stage in the House of Lords will be Third Reading. Theoretically, this should be at least three sitting days after Report. That would make the earliest date for Third Reading Monday, 4 April 2022.
Does the Bill have to go back to the House of Commons?
Yes, it does have to go back to the House of Commons. For Bills other than those dealing with taxes and spending, both Houses of Parliament must agree on the same text of each Bill before it can become law.
The Building Safety Bill has been changed extensively during its progress through the House of Lords, so the text must now be agreed by the House of Commons.
The process of sending a Bill backward and forward between the Houses of Parliament is called “ping pong”. We saw ping pong in action during the passage of the Fire Safety Bill in April 2021. The Lords repeatedly sent the Bill back to the Commons with amendments to protect leaseholders, all of which were ultimately rejected by the House of Commons.
The House of Commons is away for its Easter Recess between 1 and 18 April 2022, so that first day the Commons can consider the Lords’ amendments will be 19 April 2022. If the Commons rejects the Lords’ amendments, the Bill will then have to go back to the Lords for further consideration.
There is therefore likely to be a rush of activity around late April as the government tries to get the Building Safety Bill into law before the end of the current session.
The bottom line
The best remains the enemy of the good.
There remains doubt about whether the solution proposed by the government, while a radical improvement on what has gone before, will provide the long-desired full stop to the cladding crisis.
While there is still much more the government can and should do to improve the lot of leaseholders, it is doubtful whether there is appetite in the Treasury to provide the public money necessary to spare leaseholders from any costs. That is the only morally justifiable solution. The government could then pursue developers and cladding manufacturers itself.
It is inevitable that the Lords will try to amend the Bill to provide further leaseholder protection. Whether such protection survives the return to the Commons must be doubted. The upcoming end of the session, coupled with the government’s large majority, means we are effectively playing another game of constitutional chicken, as we saw over the Fire Safety Bill.
If something is not done soon, we run the risk of this crisis continuing to drag on. If it does, it will become an ill wind that blows no good to anyone. That includes wealthy, ambitious Chancellors with eyes said to be on a house move of their own.
Perhaps it is time that the man with the purse strings is asked why he refuses to loosen them to resolve such an obvious, painful injustice?