Is this a goodbye to ground rent?
On the 30th June this year the Leasehold Reform (Ground Rent) Act came into force, bringing to an end the inclusion of ground rent charges for the majority of new leasehold homes.
This marks an important shift in the residential property market, but it will take time to establish the impact (if any) this has on property sales and values.
Over the past few years within our industry, providing advice primarily to prospective homebuyers and lenders, we have given careful consideration to the bigger picture when valuing leasehold property.
Historically, the core factor to consider was the remaining lease term and many buyers are perhaps already familiar with the notion that a property needs to have a remaining lease term of 85 years to normally be readily saleable. However, in more recent times there has been increased focus on the other charges most leasehold properties come with, specifically the Ground Rent.
So, what is ground rent?
Ground Rent is an interesting mechanism in the fact that even if you buy a leasehold property with a mortgage, it is still fundamentally a tenancy, albeit one where for all intents and purposes, the rent has been (mostly) paid in advance in the form of a “premium”.
The inclusion of an annual Ground Rent charge to supplement this was primarily intended to give the Freehold Interest of blocks of flats value; a freehold with numerous flats each paying a ground rent could provide a nice consistent income for an investor in return for the responsibility and liability that comes with the Freehold interest.
Unfortunately, what we saw over the past twenty or so years was a move, particularly in the newbuild sector, to ramp up the income derived from Ground Rents to create more value in these Freehold Companies.
Often developers were able to get away with this by setting the initial rent you would pay at something quite reasonable, but then double it every five or ten years. This meant that the relationship between the Ground Rent and property value, and even typical measures of inflation were skewed, and the Ground Rent became an expensive additional cost which ultimately gave nothing in return to the leaseholder.
Reducing the potential impact on property values
The RICS and lenders recognised that this was impacting on property value; with many lenders setting out policy requirements which would prevent or limit lending on properties which were affected.
Fortunately, we now have legislation which protects the consumer. The requirement now is that any new lease is limited to a Peppercorn Ground Rent. This effectively eliminates the ground rent entirely although otherwise allows the lease to operate as normal. Similar provision also exists (although this was also provided for in previous legislation) for any residential leaseholder wishing to extend their lease to remove the Ground Rent at the same time.
Despite the change in the law, we have seen loopholes being exploited and consumers should be mindful of this. One of the examples we Valuers come across is where a lease of a new build property, which is yet to be completed and yet to be occupied, still includes a ground rent charge. Developers avoided the new requirement by creating the leases for these properties the moment construction started, therefore, prior to the 30th June and the change in the law coming into effect.
What considerations should consumers take?
If as a consumer you are presented with this situation, you will need to think carefully about what this means to you. Will you be happy to pay this ground rent going forward? Do you think the next buyer of your property will be happy to pay it? How do you think the value of your property might perform if buyers have the option of other properties which do not have the burden of a Ground Rent in the future?
This is perhaps particularly true for larger developments being constructed in phases which could see units in phases built only months apart, but subject to significantly different monthly/annual costs.
Lenders and valuers are obviously alert to such issues and will challenge them where appropriate. No doubt as the market reacts to this, we may well see lender policy evolve to better cover the issue also. In the short to medium term, homebuyers will be savvy enough to challenge developers on this but in a market where there remains a shortage of supply, will all buyers be willing to withdraw from a sale over this matter? That remains to be seen.
Adam Santos, Regional Chartered Surveyor at SDL Surveying