The case for leasehold enfranchisement reform

The Law Commission has issued its full consultation paper on enfranchisement reform, inviting responses by 20 November. Eleanor Murray reviews the proposals and asks whether the paper meets its stated aims. The Law Commission has been tasked by government with addressing the need for reform in residential leasehold. This follows the response to the 2017 consultation: Tackling unfair practices in the leasehold market. In July 2018 the Law Commission published an initial paper summarising proposed solutions for leasehold houses (EG 28 July, p48). This initial publication was as a direct response to the government’s request to prioritise enfranchisement solutions for existing leaseholders of houses, following criticism of the sale of new houses on a leasehold basis and the onerous ground rent scandal. The Law Commission has now published for consultation its broader paper setting out proposals for enfranchisement reform which will apply to both houses and flats. The consultation – Leasehold home ownership: Buying your freehold or extending your lease – invites responses by 20 November 2018. The enfranchisement project The paper is lengthy and details proposals aimed at improving the existing procedure for claiming enfranchisement rights by streamlining and simplifying the process and reducing the costs. The Law Commission identifies that the reform will help leaseholders but also considers that, in certain cases, it will not be at the expense of landlords. The criticisms being addressed Several aspects of the leasehold market have been the subject of criticism, including high and escalating ground rents, leasehold homes that are unmortgageable and houses being sold as leasehold for no apparent reason, save to extract a profit for the freehold developer. There are also concerns that the conveyancers instructed by the consumer to buy leasehold properties on new developments are too closely linked to the developer to provide independent advice. However, the criticisms and concerns being addressed in this paper are broader. The terms of reference (detailed below and set by government) extend the remit to also address specific criticisms of the current law to make the law work better for leaseholders. Terms of reference applied by the Law Commission When analysing the proposals, it is helpful to consider the specific policy objectives set by government: to promote transparency and fairness in the residential leasehold sector; to provide a better deal for leaseholders as consumers; to simplify enfranchisement legislation; to consider the case to improve access to enfranchisement or reforms to better protect leaseholders, including the ability for leaseholders of flats and houses to enfranchise on similar terms; to examine the options to reduce the premium payable to enfranchise, while ensuring sufficient compensation to landlords to reflect their legitimate property interests; to make enfranchisement easier, quicker and more cost-effective; and to prioritise solutions for existing leaseholders of houses. Solutions proposed 1) Procedural and jurisdictional reforms A significant number of changes go to process and procedure and are aimed at reducing complexity, disputes and delays by simplifying the process followed by leaseholders, which will reduce costs. Reforming the claims process: One single statutory regime applying to any enfranchisement claim (lease extensions of flats and houses, acquiring the freehold of a house and collective enfranchisement); Introducing prescribed forms for bringing and responding to claims; Speeding up the statutory timetable for conducting claims to reduce delays and increase efficiency; Removing the minimum period of leasehold ownership; and Restricting the ability to argue about terms. Lease extensions: A new, single regime to apply to both houses and flats; Allowing leaseholders of houses to extend their lease multiple times for a longer term at a nominal ground rent; and Removing the risk of a claim being struck out (deemed withdrawn) for failure to take a procedural step. Dispute resolution: Transferring all jurisdiction to the First-Tier Tribunal (FTT) to determine disputes. This is aimed at reducing complexity and costs, facilitating early and prompt dispute resolution. This is a sensible proposal. The current regime can often be disjointed – both the county court and the tribunal have jurisdiction to determine different disputes relating to a single claim, increasing the risk of competing applications, delays and costs. 2) Freehold acquisitions These reforms will be more significant and therefore more controversial. Replacing the somewhat outdated and overly complex financial criteria applying to the valuation of freehold house claims; While not relevant to existing landlords, introducing participation rights for leaseholders not involved in earlier collective freehold acquisitions. This seeks to address the criticisms of the current regime, where participating leaseholders can block the ability of others to share in ownership rights after the event; Introducing “compulsory leasebacks” in blocks of flats by enabling participating leaseholders to require landlords to take leasebacks of commercial units and residential units that are not subject to long leases and are held by non-participating tenants. This reform would significantly reduce the premium payable and address a significant hurdle currently faced by leaseholders where a lack of participating tenants or the high value of the non-residential units can make the price payable prohibitive, thus thwarting the ability of leaseholders to enfranchise. However, this will impose significant practical burdens on landlords who will no longer own the freehold and enjoy the same level of control over the building but who will nevertheless be required to be the intermediate landlord of these units with the management obligations this will impose. The introduction of a brand-new right for leaseholders of a mixed estate (flats and houses) to acquire the freehold of the whole estate, as opposed to the current regime which applies to individual freeholds of houses or blocks of flats. 3) Valuation In addition to options that reduce premiums, the terms of reference for valuation require reform to: Simplify the legislation; Produce options for a simpler, clearer and consistent valuation methodology; and Make enfranchisement easier, quicker and more cost‑effective (by reducing the professional costs), including by introducing a clear prescribed methodology for calculating the premium. Premiums payable: This will undoubtedly be the most significant and controversial aspect of any reform. The Law Commission has identified options aimed at achieving a simpler, clearer and consistent valuation methodology. It has divided options into two broad categories: Option 1: The adoption of a new simple formula (ground rent multiplier or percentage of capital value) with prescribed figures, making a move away from valuing based on identifying market value. This would provide a consistent valuation methodology for all types of enfranchisement claims. The Law Commission has identified that while this would reduce premiums, it also risks producing arbitrary premiums, thus failing to provide “sufficient compensation” to landlords and resulting in human rights challenges. Option 2: Options based on the current valuation methodology, combining various existing valuation components in different ways to reduce the premium. Proposals include: A valuation limited to the value of the term and reversion only and removing the requirement to pay marriage value or, in collective enfranchisement claims, removing payment of hope value or other value, eg development value; and Introducing prescribed capitalisation rates, deferment rates and relativity, which would reduce the premiums payable when applied to the calculation. In addition, the Law Commission has considered the use of an online calculator to support valuation which would limit the need for expert assistance, saving on professional fees. 4) Costs The need for professional costs is linked to valuation and a consequence of the proposed reforms to valuation will automatically build in costs savings for both landlords and tenants. Non-litigation costs: Leaseholders currently contribute towards the landlord’s non-litigation costs (statutory costs). The Law Commission has not made proposals to alter the position but it has identified ways to reform how cost contributions are quantified including introducing a fixed costs regime, capped costs or linking costs to price. The reforms will ultimately reduce the costs payable by leaseholders. Landlords will therefore be forced to either bear a greater proportion of the costs (along with reduced premiums) or look to their advisers to provide solutions to reduce the costs incurred. Litigation costs: This is where the most significant costs reforms will be, as under the reforms proposed the FTT will determine all disputes arising in an enfranchisement claim. Unlike the county court, the FTT is generally a non-costs jurisdiction and there are no proposals to increase the FTT’s current costs powers, which are limited. While both landlords and leaseholders may welcome a change whereby all litigation is conducted before the FTT, this could result in more litigation as reducing the risks of a costs liability could encourage parties to litigate points in the FTT that would not currently be argued in the county court. Reforms: balancing competing interests The Law Commission acknowledges that the interests of landlords and leaseholders are “diametrically opposed” and that it will be impossible to establish a consensus between these groups when it comes to valuation. It is clearly stated in the terms of reference that the proposed reforms require valuation options that ensure “sufficient compensation is paid to landlords to reflect legitimate property interests”. When considering what amounts to sufficient compensation, a human rights analysis will need to be undertaken. A reduction in premiums is liable to be struck down if it is not compatible with human rights legislation. Property rights are subject to protection under Article 1 of the European Convention on Human Rights, incorporated into English Law by the Human Rights Act 1998. However, these property rights are qualified and interference with a landlord’s property rights can be justified where pursuing a legitimate aim proportionally. This in turn requires balancing the competing interests of leaseholders as homeowners and the human rights of landlords. Impact of reform The human rights element will therefore be at the forefront of the government’s mind and it will be alive to significant risk of challenge and litigation that may follow if premiums are reduced. If implemented, the options presented will also have significant implications for the wider residential property market. The consultation calls for evidence and information that can be utilised by government when undertaking impact assessments on the proposed options. The Law Commission is conscious that its remit is to focus on the interests of leaseholders as consumers and that, while the majority of these are homeowners, some leaseholders include developers and investors. While they invite responses on ways to ensure reform benefits the intended beneficiaries only, they acknowledge that devising a regime to achieve this will be very difficult. A better deal for leaseholders The breadth and depth of the paper demonstrates just how seriously the Law Commission and government are taking the call for reform. The solutions, if implemented, would significantly reshape the existing regime and serve to tackle head-on many of the criticisms by tenants attached to the current regime, achieving what can certainly be described as a significantly better deal for leaseholders as consumers and homeowners. However, this will be to the disadvantage of landlords, who will see a significant reduction in enfranchisement receipts when rights are exercised. The consultation is available at https://s3-eu-west-2.amazonaws.com/lawcom-prod-storage-11jsxou24uy7q/uploads/2018/07/Leasehold-home-ownershi-buying-your-freehold-or-extending-your-lease.pdf Main image © WestEnd61/Rex/Shutterstock Eleanor Murray is head of enfranchisement and residential disputes at CMS Cameron McKenna Nabarro Olswang LLP