Run to ground

Since the Leasehold Reform Act 1967 (LRA 1967), legislative policy could be seen as inclining towards the progressive phasing out of leasehold ownership of houses and, since the Leasehold Reform, Housing and Urban Development Act 1993 (LRHUDA 1993), towards facilitating the ownership of the freehold of blocks of flats by leaseholders. The leasehold sector has, however, proved remarkably durable: Land Registry data for sales of new leasehold houses alone indicates that sales grew steadily between 2010 and 2015, from £616m to £1.79bn. Despite growing scrutiny in parliament and the press, the final figure for 2016 is likely to be around £1bn.

Unmanageably high ground rents may not only result in leaseholders defaulting on payments, leading in turn to proceedings and potentially to forfeiture, but could also affect the value of leasehold interests and impact upon mortgagees’ security

Ground rents, the (generally) annual payments leaseholders must make to freeholders under the terms of the lease, have been the chief cause of concern. This is not only because ground rents in newer leases have been significantly higher than the fairly nominal amounts which have historically been charged (£50 to £100 per annum (pa)), but also because newer leases more commonly provide for periodic increases. Although a fixed service charge case, Arnold v Britton [2015] UKSC 36, in which a seemingly innocuous annual payment of £90 pa at the start of the lease was destined to rise over the course of a 99-year term to £1,025,004 pa, makes salutary reading for anyone inclined to look only at the headline figure, without considering the effect of any escalator. It also demonstrates that the courts are compelled by legal principle to enforce bad bargains that fall outside the Unfair Terms in Consumer Contract Regulations 1999.

Unmanageably high ground rents may not only result in leaseholders defaulting on payments, leading in turn to proceedings and potentially to forfeiture, but could also affect the value of leasehold interests and impact upon mortgagees’ security. Additionally, a high ground rent will increase the cost of getting out of the difficulty by making an enfranchisement claim.

April saw two high profile news stories around high ground rents: 80 leaseholders claimed against their conveyancers; and Taylor Wimpey has set aside £130m as an exceptional item in its 2017 first half accounts to facilitate negotiations with those of its leaseholders with onerous ground rent provisions, to produce ‘materially less expensive … terms’. Whatever follows (and there is the possibility this is the start of a scandal of PPI mis-selling proportions), this incontrovertibly demonstrates the importance of highlighting highly ratcheted ground rents in leases.

The courts are compelled by legal principle to enforce bad bargains that fall outside the Unfair Terms in Consumer Contract Regulations 1999

Formalities, liability and limitation

There are certain (partially overlapping) formal requirements which must be complied with before liability to pay ground rent arises and steps to enforce the liability can be taken.

There is a requirement under section 48 of the Landlord and Tenant Act 1987 (LTA 1987) for the provision of the name and address of the landlord, or an address within England and Wales at which documents can be served on the landlord. Neither the ground rent nor the service charges demanded will be payable until this information has been provided.

Under section 166 of the Commonhold and Leasehold Reform Act 2002 (CLRA 2002), a leaseholder under a long lease is not liable to pay ground rent unless the landlord has first given a notice in the prescribed form, which contains information about the dates for payment and consequences of non-payment. The forms are prescribed by the Landlord and Tenant (Notice of Rent) (England) Regulations 2004 in England, and the Landlord and Tenant (Notice of Rent) (Wales) Regulations 2005 in Wales.

Under section 167 of the CLRA 2002 and the Rights of Re-entry and Forfeiture (Prescribed Sum and Period) (England) Regulations 2004, a landlord under a long lease of a dwelling may not exercise a right of re-entry or forfeiture for failure by a tenant to pay an amount consisting of rent, service charges or administration charges, unless the unpaid amount exceeds the prescribed sum, or consists of or includes an amount which has been payable for more than a prescribed period. The sum and period prescribed are respectively £350 and three years. Default charges, such as interest, must be excluded in determining the amount (section 167(3) of the CLRA 2002).

Under section 19 of the Limitation Act 1980, the limitation period for recovery of rent is six years, but, in relation to claims against guarantors for arrears of rent due from the tenant, the cause of action has been held to arise not when the tenant’s default occurred, but when payment was demanded under the guarantee. It is not resolved whether a landlord’s failure to have complied with section 48 of the LTA 1987 or section 166 of the CLRA 2002 might have the incidental effect of delaying the start of the limitation period for the recovery of rent.

How to advise on leases

A solicitor has a duty to draw attention to unusual and/or onerous clauses in leases (County Personnel (Employment Agency) Ltd v Alan R Pulver & Co [1987] 1 WLR 916). Entering into a more onerous contract is ‘actual damage’ in tort (Forster v Outred [1982] 1 WLR 86).

Where a solicitor acts for the mortgagee and buyer of leasehold property, the CML Handbook (paragraph 5.14.9) provides that while there is no objection to leases containing a periodic increase in ground rent if the increase ‘is fixed or readily ascertainable and is reasonable’ (emphasis added), any increase which ‘may materially affect the value of the property’ must be reported to the prospective mortgagee and purchaser.

The authors feel that the Leasehold Property Enquiry Forms, LPE1 and LPE2, launched by the Law Society in conjunction with a number of other organisations in 2013, and revised in 2015, ought to be supplemented by additional enquiries about the provisions leases contain for ground rent increases and, in particular, the rate of such increases.

Acting for both buyer and seller

Acting for buyer and seller in a property transaction was always a somewhat fraught enterprise, even before the House of Lords spelt out the consequences when a conflict of interest arises in Hilton v Barker Booth & Eastwood (a firm) [2005] UKHL 8. The SRA Code of Conduct 2011 requires that a solicitor’s independence not be compromised; that the best interests of each client are served; and that the solicitor behaves in a way that maintains the trust the public places in the provision of legal services. While the code has an outcomes-focused approach, the start of chapter 3 of the code, which advises ‘If there is a conflict, or a significant risk of a conflict, between two or more current clients, you must not act for all or both of them unless the matter falls within the scope of the limited exceptions set out at Outcomes 3.6 or 3.7’ would appear to make it difficult to act for vendor and purchaser in the sale and purchase of a leasehold. This is re-emphasised in indicative behaviour 3.14, which states that ‘acting for a buyer (including a lessee) and seller (including a lessor) in a transaction relating to the transfer of land for value, the grant or assignment of a lease or some other interest in land for value’ may tend to show that a solicitor has not achieved these outcomes and therefore not complied with the principles.

The legislation on enfranchisement is complex, arcane and, although much amended, deeply unsatisfactory. Nonetheless, enfranchisement provides a way out of ground rent problems, albeit at an immediate cost

Acting for the buyer as a ‘recommended solicitor’

One of the authors was involved in litigation concerning the sell-to-rent-back (SRB) market and failed Spanish property transactions. Solicitors being recommended to the party dealing as an individual, by the party with the greater economic bargaining power (the SRB buyer / landlord in the former, and the property selling agent in the latter) were a common feature in both areas.

There was no relationship of solicitor and client, nor anything formally contractual, between the recommending party and the ‘recommended solicitor’, but the flow of work generated from the recommendation undoubtedly played a part in the sub-standard advice tendered to SRB sellers / tenants and Spanish property buyers.

The SRA Code of Conduct is less explicit in such cases, but outcomes 3.2 to 3.4 would be engaged were a solicitor to feel unable to give suitably trenchant advice about the perils, say, of a heavily escalating ground rent. While the authors feel slightly hesitant about delivering this admonition, SRB is hardly ancient history, and the most common instances of sharply escalating ground rents are new-build leasehold flats and houses developed by some of the country’s leading national and regional housebuilders.

Enfranchisement: purchasing the freehold interest and lease extensions

Enfranchisement, under the LRA 1967 and LRHUDA 1993, broadly falls into three categories:

• lease extensions of flats
• collective enfranchisement of flats
• the enfranchisement and lease extension of houses.

The legislation is complex, arcane and, although much amended, deeply unsatisfactory. Nonetheless, enfranchisement provides a way out of ground rent problems, albeit at an immediate cost. When the freehold is purchased, the ground rent problem drops away completely and, on a lease extension, the ground rent is, effectively, reduced to nil.

Buyers of leasehold properties ought to be actively advised about the possibility of enfranchisement. Where, for example, the property in question is a flat and the vendor has the right to seek a lease extension, that right can be assigned – but only if the vendor has served notice under the LRHUDA 1993 and the right is assigned at the same time as the lease. So, if a lease extension is not considered prior to purchase, the purchaser will have to wait two years to become a qualifying tenant in their own right.

A solicitor advising someone with ground rent difficulties ought to give active consideration to whether an enfranchisement claim can be made. Where the difficulties have arisen from earlier bad advice on purchase, ‘extraction costs’ (that is, the cost of getting out of a bad bargain) can be awarded as damages (County Personnel (Employment Agency) Ltd v Alan R Pulver & Co (supra)). However, the six-year limitation period in both contract and tort will run from the date of purchase, which can be cruelly short if, say, problems only become apparent if an escalator comes into effect after five years.

Conclusion

While calls for the reform or abolition of leasehold are longstanding and growing, there is unlikely to be any quick fix, so there will continue to be a need for a high degree of vigilance in relation to the potential problems posed by ground rents.

This article is accurate as at 4 May 2017.