Leasehold Enfranchisement Reform – Law Commission Report
The Law Commission has published its long awaited report on ‘Leasehold home ownership: buying your freehold or extending your lease - Report on options to reduce the price payable’. The report follows the Commission’s consultation on wide-ranging reforms to the enfranchisement regime (enfranchisement being the extension of an existing lease or purchase of the freehold interest in the property).
The Commission is shortly due to publish three further reports on the following areas:
- a report on all aspects of a reformed enfranchisement regime
- a report on the reform of the right to manage
- a report on the reform of commonhold ownership
The mandate of the report was for the Commission to report to the Government on “options to reduce the premium payable by existing and future leaseholders to enfranchise whilst ensuring sufficient compensation is paid to landlords to reflect their legitimate property interests”.
The Proposed Schemes
The report has proposed 3 schemes of valuation:
Scheme 1 - It would be assumed that the leaseholder isn’t the purchaser of the asset. The premium here would be based on a premium payable for the ground rent income for the remaining term (‘the Term’) plus the value of the right to have the property back (‘the Reversion’).
Scheme 2 – It would be assumed that the leaseholder isn’t the purchaser of the asset but may do so in the future. The premium here would be the Term plus the Reversion plus Hope Value (i.e. half of the Marriage Value)
(Marriage Value is an additional payment to reflect that the value of owning the freehold interest outright is worth more than the sum of the freehold and leasehold interests in separate ownership. Hope Value is the potential selling of the asset to the leaseholder in the future if it is sold to another party first)
Scheme 3 – Would be a continuation of the current law. It would be assumed that the current lessee is the purchase of the asset. The premium here would be the Term plus Reversion plus Marriage Value
Schemes 1 and 2 would reduce the premiums currently paid. Scheme 1 would get rid of both Marriage Value and Hope Value. Scheme 2 would get rid of Marriage Value and (in certain cases) Hope Value.
Further Proposed Amendments
As well as the proposed amended Schemes 1 and 2 the report also suggests the following additional amendments that would look to reduce the premium payable if any of the three proposed schemes were adopted going forward:
- Prescribing rates for Term, Reversion and Marriage Value.
This would be the most controversial amendment. At present such rates are very much a subjective debate between valuers for landlords and tenants. Government would need to determine them and would need to decide what the applicable market rate was.
- Capping the treatment of Ground Rent
The report suggests capping the level of ground rent that is taken in to account when calculating the value of the Term. The justification for this amendment is purportedly ‘onerous ground rents’ and the impact they have on the Term valuation.
- Restricting or capping Development Value payments on collect enfranchisement cases
Leaseholders could be given the option to decide to accept a restriction on future development of a block in return for the non-payment of Development Value.
- Differential pricing for different types of leaseholder
The valuation system could working differently depending on whether the leaseholder was an owner occupier or a buy-to-let investor.
- Removing the 80 years or less cut off for payment of Marriage Value
This would only apply if other proposed reforms were implemented which would have the overall effect of reducing premiums.
- Allowing a discount for leaseholders’ improvements
Any increase in value of the property which is as a result of an improvement carried out by the leaseholder would be deducted from the freehold value.
- Discount for the risk of holding over
The right to hold over can reduce the value of the freehold and is therefore currently used to reduce the premium paid. This could be removed in limited circumstances if other proposed reforms were implemented which would have the overall effect of reducing premiums.
The Commission has, as per their instructions, proposed reforms to the current enfranchisement process so as to “reduce the premium payable by existing and leaseholders to enfranchise”.
However, as they themselves state, they do not make recommendations as to what a fair premium is. It is for the Government and Parliament to ultimately decide this. These recommendations are therefore essentially superfluous to that greater question. The current system may even be deemed to work perfectly well if the current methodology for calculating the applicable rates (Term, Reversion, Marriage Value and Hope Value) is reformed to produce what the Government eventually decides is a fair premium.
Amendments to rates and the premium calculated must, as the Commission’s own instructions state, ensure “sufficient compensation is paid to landlords to reflect their legitimate property interests”. The Commission’s own report reflects on this citing the need to comply with Article 1 of the First Protocol of the European Convention on Human Rights as enacted through the Human Rights Act 1998 as well as being conscious of the risk for potentially reducing income for pension funds and charities to which we are all dependant in one way or another. The phrasing of this part of the instruction is at odds with the first part of the instruction to “reduce the premium”. Surely you need to determine what “sufficient compensation” (i.e. a fair premium) is first and then determine the appropriate pathway to ensure that such a level of compensation is paid. The Commission are giving options to the Government to try and reach a target that has yet to be determined. This is putting the cart before the horse.
If the Government is serious about enfranchisement reform then they should stop dallying around the issue and address the pertinent question of the level of premiums payable and whether or not they consider them to be fair. They need to decide once and for all whether the premiums payable are fair and if not reform the system to determine a fair premium and in doing so to strike a fair balance between leaseholders’ and freeholders’ interests. Any other reports such as this are just window dressing and do not address the central issue.