Back to Basics: An overview of overage

Overage provisions play an important part in the protection of a seller’s interests when it comes to the future value of their sold estate. An overage deed is, at its most basic, an agreement that, if certain future events occur, a seller (or beneficiary) is entitled to receive additional payments from its buyer, on top of the initial price for which land has been sold or disposed. Overage provisions are sometimes referred to as “clawback”, “uplift” or “anti-embarrassment” clauses. They are designed to ensure that sellers are fairly compensated for future increases in the value of the land they are selling and are particularly common during development transactions (where the value of the land sold can increase significantly in a short period of time). They are also of use for publicly owned sellers, who are obliged to sell at the best consideration obtainable. Overage provisions additionally can benefit buyers (largely developers), who can better manage their cash-flow through payments being spread out over time. If well-negotiated, provisions may also protect developers from paying an uplift if their project does not turn a tangible profit. There are four mainstays of your average overage provision: trigger events; calculation of payments; duration; and security. We will explore security in our second article. Trigger events It is worth noting at this point that overage provisions can be drafted either positively or negatively. Positive clauses involve the buyer expressly contracting to make a further payment if a specific event, or “trigger” occurs in the future. Negative overages occur where the seller includes a restrictive covenant that prevents a change of use or future development (or prohibits an action on the land essential for future development). The seller can then provide for a future, optional, payment of an additional sum in return for the release of the covenant. Alternatively, a seller could retain a “ransom strip” – a parcel of land needed to access a property from a public highway, to which the buyer is denied access until the relevant overage payment is received. Focusing on “positive” provisions, the most common trigger events include: the grant of planning permission for the development, redevelopment or change of use of the land; the disposal of the land at a higher price within a fixed time period; and the disposal of a completed development. Being one of the most important stages in the development cycle, the obtaining of planning permission is perhaps the most common overage trigger event in a commercial real estate setting. Overage provisions can also be drafted to trigger on the implementation of a planning permission (and compliance with the permission’s condition precedents). When it comes to drafting trigger events, for the seller, the sooner the trigger event occurs, the better. This is why they might argue that the trigger event should be the local planning authority “granting” any request for permission of a development or change of use. Developer buyers, on the other hand, will know that the grant of planning permission does not necessarily mean a project has the green light. One can only look to London & Ilford Ltd v Sovereign Property Holdings Ltd [2018] EWCA Civ 1618, where an overage payment was seen to trigger following approval by the LPA of the construction of residential flats, despite the development not actually passing building regulation scrutiny. The developer buyer argued that the overage agreement had been frustrated because the flats could not be constructed. However, the Court of Appeal nevertheless decided in favour of the seller on the basis that it was clear the trigger event was simply the grant of planning permission, and awarded the additional £750,000 overage payment in the process, even though development was not achievable in practice. This is a key example of why buyers need to be forward-looking when agreeing trigger events, by making allowance for the future obstructions which come innate in a development’s life cycle. Calculation of payment Calculation methods can vary when it comes to how much a beneficiary should receive following a trigger event. Methods can range from an agreed percentage of the increase in value of the land, to a fixed sum for each unit developed on the land, to a percentage of a buyer’s profits following an eventual sale of the development. Where an overage payment is calculated by reference to value, overage provisions should establish the means for determining any increase in the value of the property – a common option being the instruction of an independent surveyor in the absence of an agreement. Developer buyers will also seek to “residually” value the land, where their project costs will be deducted before calculating the uplift. The key to an effective calculation clause is clarity. Commentators will often cite the legal headache experienced in George Wimpey UK Ltd (formerly Wimpey Homes Holdings Ltd) v VI Construction Ltd (formerly VI Components Ltd) [2005] EWCA Civ 77, where the mathematical formula used for ascertaining the payment was so convoluted that one of the parties did not notice that a key section of the assessment (that relating to enhancements made to individual flats on a development) had been omitted from the final contract before signing. This case should be taken in the context of an individual mistake, however. Mathematical formulas, where they are accurate and capable of being clearly understood, limit the need for subjective interpretation. Illustrative examples within the contract of different possible outcomes also demonstrate to seasoned and unsophisticated parties alike the factors which influence a value determination. It will lastly be important that the base value for the land, or the figure which any increased value is held against, is clearly determined – whether that be by the parties or an independent expert. Duration Despite the wishes of many sellers, buyers should not be agreeing to overage provisions without a defined fixed term. The “overage period” is therefore a commercial point on which both parties will need to agree. It should be quantified with reference to a reasonable estimate of when the land is expected to increase in value. Buyers will of course be dissuaded by longer-term demands, but sellers will understandably want to ensure that buyers are not incentivised to hold out until the expiry of the overage period to sell the land on. An overage period can be drafted from anywhere from a few months to a few decades. Should sellers be successful in negotiating long-term periods, it is important that they protect their own (as well as their estate’s) status as a beneficiary. This is something we will cover in next month’s instalment. Overall Overage deeds are complicated documents which, when drafted correctly, can serve the interests of both buyers and sellers alike. They are based on the principle that sellers should be fairly compensated for the disposal of their land, should it hold a high profit potential. Next time How an overage agreement can be effectively “future-proofed” – including the different forms of securing a deed, its assignability and an effective registration at HM Land Registry Anthony Grogan is a trainee solicitor and David Herbert is a legal director in the real estate development team at Brabners Image © Scully/imageBROKER/Shutterstock