Many vendors selling their flats with limited time running on the lease might be unaware that they are risking a serious devaluation of their property.
This is more apparent in London where property prices are extremely high and nearly all flats are leasehold.
Similar flats with varying time scales remaining on the lease will often show marked disproportions in value. Flats with shorter time periods left on their lease also prove a lot harder to sell.
The importance of the length of time left on a lease was brought home to me when a friend tried to sell his London flat recently. When the estate agent came over to value the property he pointed out that with only 66 years remaining on the lease some buyers would be immediately put off. He felt it would be worthwhile extending the lease. While a flat with a 66-year-old lease is certainly far from unsaleable, it does limit the number of people to whom you could sell.
One should consider that most potential buyers will need a mortgage to purchase the property. With the majority of lenders stipulating at least 40 years remaining on the lease after the mortgage has been repaid, a lease of just 66 years can pose problems.
With so many homebuyers opting for a mortgage repayment scheme that runs for 25 years, the seller is going to need at least 65 years remaining on their existing lease to be able to attract all possible buyers. My friend’s 66-year lease had its problems. With anything much less than 70 years, he found, like many other vendors, that some mortgage companies will refuse the prospective buyer the loan. Potential purchasers could be limited to just cash buyers. He was also made aware that the valuation of his property was far less than it could have been if the lease period was longer.
If you only have a few years over the 65 year mark then it is advisable to act now rather than putting it off. It’s also worth pursuing even if you’re not thinking of selling in the short term. With a lease extension you will have eradicated a major stumbling block in the negotiation of the sale and one that could have seriously jeopardised the route to finding a buyer. It makes sense to do the deal sooner rather than later as the cost of extensions generally rises the nearer one is to the end of the original term.
For vendors with just 50 years on the lease the problem of selling is far greater. No mortgage company will offer a loan where there are only 25 years remaining on the lease after the mortgage is paid. Paying for the property over a 10 or 15 year period can sometimes help, but generally, most sellers in this situation are dependent on finding a cash buyer.
Much of the press from the 1993 Leasehold Reform and Urban Development Act concentrated on the right of leaseholders to purchase their freeholds.
While control of the freehold is usually an attractive proposition, there are also a number of complications. To obtain the freehold of their block, flat owners must join together as a group, and collectively purchase. The group then takes over the management and will then be able to grant themselves new long leases, up to 999 years.
In so many cases the leaseholders never reach this stage. This process can demand a lot of negotiation and often breaks down as so many interested parties fail to agree on what they are trying to achieve. This failure among tenants to finalise common goals usually leaves the freehold under its existing system of management. This might not be a major problem if they’re doing a good job but it can be frustrating if they’re charging excessively for a service they barely deliver.
Purchase of the freehold can also prove expensive and this also deters many leaseholders from taking full control.
However, The 1993 Leasehold Reform and Urban Development Act did include legislation concerning the right to extend the leasehold period. This was good news for existing leaseholders worrying about the diminishing period on their leases and fearing a devaluation of their property.
The Act gives flat owners the right to buy a new lease extension of 90 years. The extension would, for example, turn an existing lease of 55 years into a new lease period of 145 years.
To qualify, leaseholders must have lived in the flat and occupied it as their principal private residence for three years out of the past ten. This means they could be renting it out at present, but as long as they can prove they have occupied it for any three years in the last ten, there should be no problem.
Those that have rented out the property for the whole period of ownership could find this difficult. However, in many cases it’s quite likely that the freeholder will have no knowledge or interest in who is actually occupying. If this is the case then there will be nothing to worry about.
Another part of the law states that the original lease must have been granted for at least 21 years. If less, you cannot renew. In a few cases this can be 35 years. Why there is a difference, I don’t know, but the law here is confusing and complicated. Each of the surveyors I spoke to said this part of the legislation was hard to fathom but as a general rule agreed that 21 years was the cut-off point.
Therefore, readers should be aware that you cannot renew a lease on a property you’ve bought if it’s less than 21 years. When the lease period runs out, ownership of the property will revert back to the freeholder. I did read of a case once where a buyer bought an old mining cottage in South Wales very cheaply with cash and was shocked to discover later that they would lose ownership in years to come. Cheap buys such as this example are only useful if you intend to rent for the full remaining period of the lease and you can earn a lot more than you’ve paid out.
If the original lease was over this low time period and the leaseholder can prove that they have occupied for at least 3 years in the last 10, then they have the law on their side. Legally the freeholder will have to comply with the leaseholder’s wishes.
So How does one Go About Getting An extension?
The first and obvious step is to find out who the freeholder is. This shouldn’t be too difficult because any existing leaseholder will be paying ground rent and possibly a service charge. This could be paid through an agent who might handle the management of the property and if so, any application for an extension should be sent to them.
The next move requires a formal valuation of what it will cost to extend the lease. This has to be done through a valuer who is a member of the Royal Institution of Chartered Surveyors (RICS).
To find a company that specialises in the process of lease extensions one should call the RICS in London on 0870 333 1600 (rics.org), who will be more than helpful. Their database includes information on all chartered surveyors in the UK and details the specific areas each company specialises in. Callers can thus find the names of firms in their local area that deal with lease extensions.
The surveyor’s role in the procedure is firstly to calculate the current value of the property under the existing lease. They then calculate what the value of the property will be with an extension of an extra 90 years. The valuation obviously increases, reflecting the additional market value of the longer lease. This variation in price is called the ‘marriage value’.
As the potential profit only arises from the landlord’s obligation to grant an extension, the legislation within the act requires that this profit be shared between both parties. The legislation does not, however, specify the division of the marriage value other than that the landlord’s share shall be no less than 50%. It really is open to negotiation, but surveyors I spoke to said that a 50-50 split is usually the accepted agreement and it’s very rare that parties argue on this point.
It is in the nature of a leasehold tenancy that the value diminishes as the lease expires. In nearly all cases of lease extensions it can generally be assumed that the action of extension will have increased the value of the flat; by how much, is the debatable point.
The amount of the increase will be heavily dependent upon the length of the unexpired term before the extension. There are no hard and fast rules but the lower the period remaining on the lease, the more the increase in value when the extension has been granted. This is something the valuer will have to estimate.
One surveyor told me that their valuations were loosely based around a system of values related to time and he knew that other firms followed this pattern.
In simple terms, a flat with around 70 years left on the lease would be worth somewhere around 85% to 90% of its full market potential. This full market value is calculated on a lease period being over a 100 years. The same property with just 35 years left on the lease would only be worth between 65% to 75% of its full market value.
Let’s assume the owner of a flat has around 68 years unexpired and the property is currently worth £60,000. They are seeking an extension. How much will they pay?
Their surveyor will also have to take the existing ground rent into the final cost consideration, but this only makes a minimal difference to the final outcome of price. The surveyor will calculate the value of both the tenant’s and the landlord’s interest in the property before and after the extension.
With an extension, the value would increase to around £66,000, an increase of £6,000, though the tenant would be expected to pay the lost interest from the existing ground rent to the landlord. On a ground rent of £16 per annum this would be around £200. The profit would therefore be £5,800.
This marriage value has to be split at least 50-50. This means the tenant will have to pay the landlord £2,900 plus the £200 ground rent interest. The tenant will also incur surveyors’ costs, but in this transaction, which should end up costing them between £3,500 and £4,000, the value of the property should have increased an extra £6,000. The process should, in the long run, make the leaseholder an extra £2,000. The property would of course also be a lot easier to sell.
If, as on some occasions, the freeholder proves difficult and refuses to cooperate, leaseholders can apply to the Leasehold Valuation’s Tribunal. They will determine the price and the freeholder will eventually be forced to extend the lease at the cost decided by them. This can take time though, as there is already a six-month waiting list for cases to be heard.
Another option is to simply make an application to extend. This means the leaseholder can sell the flat with the claim for the extension and won’t have to pay any money. The advantage for the new owner is that they don’t have to wait 3 years before acquiring the right to extend themselves. It also eradicates any fears the new owner would have about the time period left on their lease.
If any readers are left with around 70 years or less on their existing lease then an extension is the obvious way forward. The outlay might seem a little expensive but the benefit of increased value in the property and the knowledge that the flat will be easier to sell make the process a worthwhile proposition.