PBA essay competition: Has leasehold had its day?

The Property Bar Association revealed the results of its third annual student essay competition at its Bar & Bench party on 13 April. Originally intended to be a biennial competition, the remarkable success of the competition has cemented it as a yearly fixture in the PBA’s calendar. This year, the PBA posed the question: “Has leasehold had its day?” Arabella Adams, studying for a graduate diploma in law (GDL) at City, University of London took first prize – £1,000, a copy of Megarry & Wade: The Law of Real Property and publication in EG. Judges praised her essay as: “A stand-out entry, definitely worthy of publication. It is well written and focused, demonstrating thorough balanced research into the issues and a good understanding of both legal and practical perspectives.” Robert Lewis (University of London International Programmes, LLB) claimed second place (£500, plus Megarry & Wade) and Jennifer Routledge (BPP University, Birmingham, GDL) came third (£250, plus Megarry & Wade). The winning essay by Arabella Adams (City, University of London student) A newspaper article from The Guardian in July 2017 begins: “The entire parasitic structure of leasehold… is, finally, beginning to wobble – and with a bit more prodding we could see it crash.” This is one of many recent articles calling for the abolition of the leasehold system. The publicity has not been ignored. Last summer, the government published a document (consultation paper) seeking views on the most pressing areas of reform. It received more than 6,000 replies – a “staggering response”. On the face of it, people have lost faith in the leasehold system. Does this necessitate the abolition of leasehold, and do we have a workable alternative? What are the problems? It is important to distinguish between exploitation of the system, and the system itself. Abuse of leasehold has been widespread for a number of years – the press have focused on ground rents that double every decade. Highly objectionable cases involve developers encouraging prospective purchasers to use particular solicitors, who then fail to highlight unfair terms or risks. Inadequate, even negligent, advice has resulted in leaseholders who are shocked to find that they have purchased a depreciating asset. The leaseholder’s recourse of taking an unscrupulous freeholder to a tribunal has proven unsatisfactory. Application fees are typically borne by the leaseholder, litigation causes further delay, and abortive transactions may put off prospective buyers. Over the past 20 years, there has been a trend towards selling standalone, self-contained houses as leasehold rather than freehold. There is no good reason for this, and as these houses are generally sold without a significant “leasehold discount”, the profits made by the sellers are simply excessive. The government agrees, and has announced a ban on leaseholds for almost all new build houses. However, there is a significant difference between a standalone house with no shared facilities, and a block of flats or an estate of houses with shared services. Leasehold is meant to be a sensible way of managing multiple ownership of a building or facility. Positive covenants preserving the value of the property can run with leasehold through subsequent assignees. They cannot do this with freehold. When freeholders and managing agents are reasonable, leasehold works well. The Cambridge Centre for Property Law’s (CCPL) response to the consultation paper underscores the gap in the law when it comes to shared facilities on an estate of houses; they cannot be dealt with adequately on a freehold basis, so they are still, necessarily, leasehold. Until we have a workable alternative system for dealing with shared ownership, leasehold will have to stay. Existing solutions There are, of course, already routes out of the leasehold system but these are not yet miraculous solutions to current problems. Since 1993, leaseholders have had the right to collective enfranchisement; acquiring the freehold of their block. In theory, this sounds like a way around the conflicts between leaseholder and freeholder. In practice, one set of problems is replaced by another, particularly in small blocks of flats, where each occupant has a large sway. Inevitably, arguments arise when, say, the owner of a basement flat feels they should not have to pay for repairs to the roof. Leaseholders with understandably little knowledge of company law are often required to set up companies in order to own the freehold. If their paperwork is not in order, the company may be struck off the register, the freehold possibly reverting to the Crown. Commonhold, an alternative form of tenure introduced in 2002, is more promising, but has had remarkably little uptake. There have been some criticisms of commonhold in practice. For example, service charges are difficult to recover because, unlike leasehold, payments are not enforceable against the unit, so there is little incentive for stubborn parties to agree. However, the problem is not that commonhold has been tried and has failed. Rather, it has barely been tried at all. Some estimates for the number of commonhold developments are as low as 20. Commonhold is still seen as risky and less profitable for developers and investors, and banks are reluctant to lend against it. Moreover, an immediate ban on new leasehold flats, in favour of commonhold, is inadvisable. Firstly, a blanket rule for all new build flats will create a two-tier market between the forms of tenure, making it difficult for existing leaseholders to sell, putting them through further hardship as their asset is devalued even further. This is already a concern with the government’s proposed abolition of ground rent on some new leases. Secondly, as the critics of leasehold have stressed, this system dates back to the Domesday Book of 1086. It cannot be abolished in one fell swoop. Leasehold removal in Scotland has taken decades of careful legislation. The emotional outcry surrounding unfair practices in the leasehold market is understandable, but the government’s response to it must be practical. Changes made to leasehold in England and Wales may have unexpected knock-on effects. For instance, a general reduction in ground rents, which form the basis of support for many pension funds, will have an indirect effect on pensioners. This is not a reason to stave off reform, but it is one example of why this reform must be careful. Caution advised It is too early to say whether the entire leasehold system is on its way out, but it is clear that strong regulation and reform are overdue. However, future changes must not go too far in the opposite direction. As the CCPL points out, the starting point must be the correction of market breakdown, not the redistribution of wealth from freeholders to leaseholders as a goal in itself. The consultation paper is a step in the right direction down the path of measured, thoughtful change. It may lead to the eventual phasing out of the leasehold system. If so, it is in everyone’s interest that leasehold dies a graceful death. Hasty abolition is not the way forward. Second place: Robert Lewis (University of London International Programmes, LLB) Leasehold today sits in the shadow of scandal. Parliament and the media are both, as ever, replete with the same stories, in this case those of vulnerable pensioners or unwary first-time buyers who have spent hundreds of thousands of pounds only to find themselves stuck in what appears to be some cruel parody of freehold. As lessees their properties transpired to be depreciating and unsellable assets with rocketing ground rents and inexplicable service charges, or so it is said. The tale of honest commoners exploited by greedy landowners has a timeless quality, but undoubtedly many of these stories are correct. The All Party Parliamentary Group on Leasehold and Commonhold Reform has grown considerably since it was formed in September 2016, thanks in part to the energy of its founding members. Much credit is also due to its secretariat, the Leasehold Knowledge Partnership, which has kept both parliamentarians and the public highly informed. Such is the influence of this bloc that its latest debate was pre-empted by the secretary of state for communities and local Ggovernment, who issued a midnight press release laden with bold pronouncements about what he sought to do to fix Britain’s “broken” housing market. This included banning leases on new-build houses. Such is the furore over leasehold that the question arises of whether it should be prohibited as a form of possession, as passionately advocated by the Campaign for the Abolition of Residential Leasehold and the late Nigel Wilkins. This was never an absurd proposition. The land legislation of 1925 eradicated many outmoded tenures, and indeed, the reduction in the number of forms of tenure has been a pattern of land legislation throughout the centuries. It is not easy to forget the knowledge that one Roland of Suffolk acquired fee tail through the obligation to perform one leap, one whistle, and one fart before the King every Christmas Day. (Thus it is written in the Liber Feodorum. The fee tail concerned the parish of Hemingstone, the King was Henry II. For this and other remarkable tenures see Fragmenta Antiquitatis by Thomas Blount of the Inner Temple, 1679.) Should leasehold itself be consigned likewise to the dustbin of history? On Wilkins’ side of the ledger, there is not just the fact that modern leasehold has lent itself to injustice, but also that many of its justifications are no longer extant. For example, whilst investment opportunities were scarcer in pre-industrial Britain, leasehold did present speculators with the opportunity to purchase a lease (at the right price) and earn interest through taking profits off the land. In the same manner, leasehold also allowed creditors and debtors to escape the usury laws: the borrower could lease his land to the lender at a nominal rent, who could then earn interest through taking an agreed level of profits from the land, an arrangement thus affording creditors both interest and security. Now that usury is enshrined in English law, and the English economy is preoccupied with creating and selling a growing array of financial instruments, these functions have fallen away. Similarly, ground rent is sometimes defended on the grounds that peppercorns prevent a claim of adverse possession. This argument is diminished by the Land Registration Acts, and that service charges could perform an identical purpose. Other jurisdictions have delivered stinging, sometimes felling, blows to leasehold. The unpopularity of ground rents can be considered one of the reasons why an independent Irish jurisdiction was created in the first place. That country has ended the creation of ground rents for residential properties. North of the border, Ulster enjoys a statutory ceiling on freehold conversion prices. Since devolution, the Scottish parliament has effectively terminated leasehold. Australia’s rejection of residential leasehold began in the 1960s, with the notable exception of the Australian Capital Territory (ACT). Those who argue that markets always correctly price leasehold would do well to examine the social experiment performed in ACT, where all property is owned on 99-year leases from the Crown. By the 1970s, leasehold property in the ACT was of equivalent value to freehold property in New South Wales. Leasehold may be justifiable In defence of leasehold, it remains a useful tool in certain specific situations. Its utility in commercial properties, whilst not the subject of this essay, remains unchallenged. Residential leasehold operates without controversy where leaseholders own the freehold through a company. Where freeholder and leaseholder are separate, most leaseholders still accept the terms of their lease. Service charges may, in most cases, be justifiable. Ground rents can provide funds when maintenance costs spike, or cash flow when service charges are unpaid. Ending leasehold would do little to address the underlying causes behind its current disgrace, such as the state of the housing market, and the shortage of housing supply, particularly in social housing. Another problem concerns access to justice. The Leasehold Variation Tribunal, for example, pales in comparison to Ireland’s Property Registration Authority, which for a prescribed fee, performs the legal work to enlarge a leasehold into freehold. It has seen more than 87,000 cases since its foundation in 1978. As a hybrid of contract law and property law, leasehold demands a functional regulatory environment. Leasehold’s treatment here has not kept pace with that of contract law generally. Previous legislative reforms, in 1993 and 2002, both fell well short of efficacy. Meanwhile, the statutory creation which is the Leasehold Advisory Board is as fine an example of regulatory capture as can be seen in contemporary Britain. The Law Commission may come down against residential leasehold when it concludes its 13th Programme, but its conclusions have been ignored before now. Ultimately, the fate of leasehold will not be determined by legal argument. Leasehold’s inherent and increasing complexities may render its demise in the residential sphere a political inevitability, despite its growing prevalence. If so, any transition away from leasehold will present huge legal uncertainty. Maudlin as it may be, the only sound conclusion is that the value of property lawyers will remain unaffected either way. Third place:Jennifer Routledge (BPP University, Birmingham, GDL) The government consultation entitled Tackling unfair practices in the leasehold market, following on from the White Paper Fixing our broken housing market, left little room for interpretation as to their opinion of the current leasehold climate. A press release on 21 December 2017 announced that new measures would include a ban on leaseholds for “almost all new build houses”. A rising awareness of housing issues following the Grenfell Tower fire, and campaigns around rapidly escalating ground rents (such as that in the Guardian newspaper) have added to a climate in which opinions around housing are highly charged, and change seems inevitable. Whilst access to affordable and social housing in particular remain an issue, changes to (or abolition) of the leasehold system does not seem placed to remedy this. However, there are clearly issues with the leasehold system, with three areas of particular concern. Firstly, ground rent and service charge agreements. Arnold v Britton [2015] UKSC 36; [2015] EGLR 53 highlighted service charge clauses, where if not clearly drafted as in that instance could be interpreted to amount to over £1m per annum. Lord Neuberger felt that “a court should be very slow to reject the natural meaning of a provision as correct simply because it appears to be a very imprudent term for one of the parties to have agreed”. Lord Carnwarth’s dissenting judgement referred to the “potentially catastrophic financial consequences for the lessees directly concerned”. Lack of clarity He also quoted Mark Wonnacott describing service charges as causing “more trouble between landlord and tenant than anything else”. Whilst the approach of Lord Neuberger may give some reassurance to freeholders, it was a high profile case adding to a feeling amongst the general public that such charges are hidden or lacking clarity. Secondly, the difficulty and uncertainty of extending leases. This was highlighted in Sloane Stanley Estate Trustees v Mundy [2016] UKUT 223 (LC); [2016] EGLR 38, where the Upper Tribunal (Lands Chamber) found that relevant market for potential valuation was the real market as opposed to hedonic regression, as in this instance the Parthenia model led to a valuation higher than the agreed freehold vacant possession value. [At time of writing] the case is pending appeal, but it has been suggested that there are significant questions raised as to how valuations will be ascertained in future, either with potentially more accurate relativity graphs, or with a greater emphasis on current market evidence. Thirdly, issues around property maintenance, highlighted by Martin Dixon, suggest that a potential benefit of rental (that the landlord will be responsible for upkeep) is largely reliant on the goodwill of the landlord, as the provision in Article 8 of the Landlord and Tenant Act 1985 is “laughable”. A private member’s bill, The Homes (Fitness for Human Habitation and Liability for Housing Standards) Bill is [at time of writing] due for its second reading on 19 January 2018, and would be an opportunity to tighten safeguards in this area. Access and responsibility Additionally, there can be  issues around access and responsibility, as highlighted by Dr Nicholas Roberts, where maintenance, such as the replacement of the front doors of flats with fire-retardant doors, could be trespass. Dr Roberts suggests the possibility of using section 35 of the Landlord and Tenant Act 1987 to make mandatory variations of lease for fire safety requirements. The main alternative to leasehold, in situations where common maintenance and other issues render freehold impractical, is the commonhold, introduced in 2004 by section 47 of the Commonhold and Leasehold Reform Act 2002. This system has already been established in other countries, including Singapore and Scotland, where leasehold has largely been abolished. In England and Wales however, take up has been negligible, with only 161 commonhold homes built up to 2015. It is suggested that apart from the low availability there are again issues around security of ownership, as forced sale can be triggered by an 80% vote (for comparison, the requirement is 90% in Singapore). The Unfair practices consultation makes reference to a “new” or “rejuvenated” commonhold, and this may address some of the practical concerns (as well as its low profile). Overall, despite the issues highlighted with leasehold, until there is a viable alternative, which commonhold in its current format does not appear to be, leasehold, although battered round the edges and a little worse for wear, has at least a little life left in it. Written before the Court of Appeal gave judgment in Mundy v Trustees of Sloane Stanley Estate [2018] EWCA Civ 35; [2018] EGLR 7