10 December 2023
Briefing Leasehold and Freehold Reform Bill
To members of the All-Party Parliamentary Group on leasehold and commonhold reform
The Leasehold and Freehold Reform Bill is the result of the campaigning work of the Leasehold Knowledge Partnership over the last 11 years – including briefings with the Law Commission, officials, CMA, FCA, editorial reports of shortcomings and injustices in the sector and public campaigning. It includes the work of the APPG.
LKP pays tribute to the unstinting support of APPG co-chairs Sir Peter Bottomley and Justin Madders, and his Labour predecessor Jim Fitzpatrick
The three reports of the Law Commission – on enfranchisement, reforming leaseholder Right to Manage and commonhold – are the foundation of the governments’ development of policy, although commonhold is not addressed in the Bill.
This is the second of two laws addressing leasehold reform: last year’s Leasehold Reform (Ground Rent) Act ended ground rents on almost all new build houses and flats.
The present Bill seeks to address complex and technical issues in leasehold.
A vital part of it is to terminate or drastically reduce existing ground rents, with five options out for consultation by 17 January 2024 (extending the original deadline of 21 December 2023).
LKP supports setting all existing ground rents to a peppercorn ie no monetary value, with no payment of compensation to freehold owning investors.
There are omissions to the Bill, the most important being the promised revival of commonhold as an alternative to leasehold tenure.
The Bill will make conversion to commonhold an easier process, including ending landlords’ right to make leaseholders pay legal costs when exercising the right to enfranchisement or the Right to Manage.
We welcome the proposals to reform individual and collective enfranchisement. These measures are designed to make the process both cheaper and simpler for all parties. For collective enfranchisement there are proposals that will make matters easier for mixed-use sites (ie where there is also commercial property).
The current consultation on ground rents is key. The government makes clear that whichever proposal is chosen it does not propose to compensate the freeholders.
If the peppercorn option is chosen this will ensure the simplest transition to commonhold in the future.
We welcome the proposal for an online calculator, and a move away from bespoke valuations that have produced inconsistent and landlord-weighted results.
The freeholder lobby, today represented by the Residential Freehold Association, is challenging the reforms, as it challenged the 1967 and 1993 Acts. The freeholders failed in those challenges because the reforms were considered a legitimate balance of public and private interests.
The Residential Freehold Association has produced a figure of £30 billion in compensation; the government has also produced a figure of £27.3 billion in its impact assessment:
Both figures are likely to be massive overestimates of the true value of ground rents.
The government could avoid any bill for compensation merely by imposing a high tax on residential ground rents. Many of the ground rent investors complaining about the reforms pay no corporation tax because they are structured to generate losses, or to push off tax into the future.
For example, the most recent accounts of Beta Centauri Limited (part of the Consensus Business Group, a member of the Residential Freehold Association), show it paid no Corporation Tax on ground rent and other income of £23.8 million. It would have paid only £1.2 million (or 5%), but it used losses from previous years to avoid paying anything at all. The same accounts show Beta Centauri is sitting on £310 million of deferred tax that will not be paid until any future sale of its ground rents.
The estimates are also out-of-kilter with what happened when the Scottish equivalent of ground rents was abolished in 2004. The Scottish law only provided for compensation on the basis of a multiple of the ground rent calculated by reference to long-term government debt:
Scotland is subject to the same human rights legislation as England and Wales. No successful challenge was made to the Scottish law.
As LKP Trustee, and former Bank of England economist Dr. Dean Buckner has pointed out, assets are worth only what they can be sold for in the market:
The freeholder estimate has not been published. The government estimate appears to suffer from some flaws, namely:
1/ The government assumes all residential leases carry an average ground rent of £298. That is unlikely to be the case because leases before around the year 2000 tended not to have high ground rents. Doubling and inflation-linked ground rents are relatively new, from about 2000 onward. Leases created after 30 June 2022 (or for retirement properties after 1 April 2023) also have no ground rent.
2/ The valuation model is on an actuarial basis (over the full-term of the leases). Ground rents are usually bought and sold in the market based on a multiple of the current ground rent without taking into account the term remaining. In recent times, with low interest rates, this multiple has typically been between 20 and 40 times the annual ground rent. We would expect these multiples to be lower in the future due to higher interest rates. For example, in the early 2000’s multiples were often 5 – 20 times the current ground rent.
3/ The valuation depends on the assumptions made and the variables applied, particularly the discount rate to reflect future interest rates. The higher the discount rate, the lower the valuation. The government appears to have used a generous discount rate of 3.5% when current long-term bond yields are 4.75%.
Billions in value turn on that assumption.
4/ We can only get an accurate picture of the value of ground rents if we know both the distribution of current ground rents and the distribution of current lease terms remaining. The government says it has no data on either, so its figure is unreliable.
While the freeholders have data on their own portfolios, they are likely to have adopted a worst-case scenario estimate to generate their £30 billion figure. Also, their portfolios may not be representative of the general population of leases.
5/ As above, most ground rent portfolios are structured in such a way that any tax due on market gains is deferred until sale of the portfolio. The owners of those ground rents can never collect the values they are claiming without paying those taxes. The taxes due will increase in line with the values claimed by the freeholders. The deferred taxes may wipe billions off the alleged value of the assets.
6/ Regarding of tax, the government could impose a tax on any compensation landlords receive (if any at all).
For example, HMRC was taken to court over errors in corporation tax charges. The courts awarded compound interest on the repayments to taxpayers. In 2015, the government decided to tax this compound interest at 45%, withholding that amount from the interest element on any compensation payments. The same could be done to cut the bill for any compensation claimed by freeholders.
7/ The other flaw in the government and freeholder models is that neither appears to take into account changes that will be made in any event that will reduce the value of ground rents in the market, such as the 0.1% cap on ground rents to be taken into account on lease extensions and enfranchisement, the abolition of marriage value for shorter leases and the ban on insurance commissions. Reflecting those changes will reduce the market value of ground rents and therefore any estimate of compensation.
Better control of estate charges – “fleecehold” – is a proposal members of the APPG will strongly welcome. Particularly welcome is the ban on rent-charge holders granting themselves leases of freehold houses for unpaid rent-charges unless they have made a proper demand, which will come into force two months after Royal Assent. The government could go further by requiring rentcharge holders to seek a court order before any lease can be granted. It is disappointing that the proposal to offer Right to Manage to owners of homes on managed estates is not included as an option, and members may hold views on this matter.
It has become ever more apparent to the APPG that there are an increasing number of unfair service charges for leaseholders, some of which are now limited by the Building Safety Act. There are proposals in the Bill to modernise the rights relating to information on service charges and a proposal to move to a standard format for the service charge bills that leaseholders must pay.
The Bill also proposes a major change in the costs regime at the Property Tribunal. Under almost all leases in the private sector, the landlord has an automatic right to recover its legal rights when the service charge costs are challenged.
This has the effect of guaranteeing the landlord a win even when the tribunal seeks to limit those costs.
Leaseholders have no right to their legal costs, even when they prove the landlord has overcharged them. The Bill proposes several changes to this regime that members of the APPG are likely strongly to support.
These are complex changes, and we will have to scrutinise the wording of these changes as the Bill progresses.
The briefings to the Bill say that there will be additions to ensure the Building Safety Act works as intended. These proposals have not been included in the published wording for the Bill as introduced. LKP and the APPG members will scrutinise these proposals.
The government has made clear commitment to end most new leasehold houses, but this is not in the initial wording of the Bill. It is assumed it will be added as the Bill progresses.
Much of the detail of the Bill is left to statutory instrument.
There is also no firm commencement date for most of the changes.
We know that the ban on rent-charge holders granting leases over freehold houses for small arrears will come into force two months after Royal Assent.
The powers to make secondary legislation will also come into force from Royal Assent.
We would welcome further indications as to the time-tabling of commencement, particularly the measures to prevent landlords recovering their litigation costs and allowing leaseholders to recover their litigation costs from landlords.
Other potential reforms
Leasehold law is complex, and LKP could list many changes MPs might consider. There are aspects of the Bill where small changes might make a major difference.
1) LKP and APPG members have long suggested that all new flats should be sold with the benefit of both a share of the freehold and corresponding membership of the Residents’ Management Company that would control the operation of a site.
Now that ground rents are no longer allowed on new build blocks of flats, there is no legitimate reason to sell on the freeholds of these sites to third-party investors and no legitimate reason for developers to keep them in the longer term.
MPs may with to propose this as an amendment to the Bill
Such a change would incur no cost to the developer and may well add to the value of flats being sold. This change would make conversion to commonhold at a later date a simpler process. As should happen already on all leasehold sites, rules are need to allow the developer to keep relevant controls during the build-out phase of those parts still under development while handing over those where development is complete.
2) Forfeiture. LKP has long argued, as have APPG MPs, that this is the most blatantly unfair element of the leasehold system and needs to be abolished. The process is draconian, and if granted results in the loss of the entire asset (the lease).
The unfair current litigation costs provisions gives an incentive for landlords to treat every late payment in service charges or ground rents as a potential forfeiture case. At a minimum members should consider if there should be an increase in the value of the debt to trigger the process to a much higher level.
If the government will not abolish forfeiture, we would like it to consider raising the monetary threshold for seeking forfeiture from £350 to £5,000.
The £350 limit was set in 2002 and has not been uprated since.
The £5,000 limit would match the limit for creditors petitioning bankruptcy of an individual. The government could also ban administration and legal fees from forming part of the £5,000 figure, so that it only relates to the actual service charge and/or ground rent debt.
We are aware of one law firm that adds an automatic “breach of lease fee” of £350 to every file it is sent to ensure forfeiture can be pursued in every single case.
The government may also consider reform to address another forfeiture related issue. Currently, the law requires landlords to preserve their rights to claim forfeiture by not dealing in a manner inconsistent with the forfeiture of the lease.
Normally landlords stop accepting any payments from the leaseholder and stop sending service charge and ground rent demands to ensure they retain their right to forfeit the leases.
This makes a bad situation worse, because leaseholders then cannot make part payments for debts that they accept and they cannot see charges continuing to accrue. A simple reform to the law could be made to exempt provision of information and acceptance of part-payment from amounting to a waiver of the landlord’s rights.
3) The Bill offers the very positive change to allow both Right to Manage and enfranchisement where up to 50% of the site is commercial. Members may consider if the level might increase even further for RTM given that the procedure excludes the management of commercial elements of a building anyway. Even if a site only contained 25% residential, why should the residential tenants not have the right to manage their element of the building?
We accept the rule of 50%+1 leaseholders support is required for Right To Manage. While this might be difficult for larger sites to collect enough support, there are many dangers in allowing small minorities to take control. LKP would argue it should be made more easy for leaseholders to contact each other to take RTM or collectively enfranchise rather than reduce the percentage of membership needed.
4/ The government could also consider no or low-cost measures to encourage residents to take-over management of their blocks, for example:
A/ Requiring alerts to be printed in large type on all service-charge and ground-rent demands for any eligible site without residents’ self-management. This alert could link to a government webpage giving information about the benefits of resident management.
B/ Re-write The Tenants’ Association (Provisions Relating to Recognition and Provision of Information) Regulations 2018 (SI 2018 / 1043) to make it easier for tenants’ associations at relevant sites to become recognised and to get lists of other residents to approach them about taking over management. The current regulations give too much power to landlords and managing agents, who have no interest in the Right to Manage being exercised.
The Tenants’ Associations (Provisions Relating to Recognition and Provision of Information) (England) Regulations 2018
C/ Require all landlords of eligible sites without a recognised tenants association to write to all residents (and any existing non-recognised tenant association) to ask if people wish to establish one. These letters could be sent annually.
D/ Require landlords of eligible sites without resident management to hold ballots of leaseholders regularly (perhaps once every three years) in which they ask if leaseholders are willing to take over the management. The landlords could be required to give prescribed information about the benefits of resident management. If the ballot reached 50% + 1 in support, the landlord could then be required to give details of all those voting in favour to a group of residents who wanted to take forward the idea.
5/ It is unfortunate that the Law Commission proposals on sites with multiple separate blocks, but one freehold, are not in the Bill. This inevitably means some large, complex existing sites will not gain the benefit of this right. Members may wish to consider which changes might be added as a subset of the Law Commission’s full proposals.
6/ The unintended consequences of SI 2020/632 Town and Country Planning (Permitted Development and Miscellaneous Amendments) (England) (Coronavirus) Regulations 2020 allowing the addition of two additional storeys to certain blocks of flats continues to create many problems.
Much damage has been done to existing sites with poor quality construction and no compensation to existing leaseholders when the value of their homes is impacted.
Members might wish to consider whether they would want to propose the SI should be withdrawn, or changes made to ensure better quality homes and that the existing leaseholders at the site are better protected and compensated
Some of these points were also made to MPs in April 2017 by LKP here: