What affects the Cost of Lease Extension and Freehold Valuation?
The Value of the Property
Generally, the more valuable a property, the more a freehold or lease extension will be worth.
- A valuer may need to consider several different, potential valuations:
- The market value with share-of-freehold.
- The market value with extended lease.
- The market value with current lease.
- The 'no-Act world' value: because of a legal technicality, properties must be valued as if the right to freehold purchase or lease extension - provided by the Leasehold Reform Housing and Urban Development Act 1993 (LRHUDA 1993 - 'the Act') - does not exist. Without this right, it would be more difficult to sell properties with shorter leases (generally less than 70 years). Hence, the value of such properties must be discounted for the purposes of valuation.
- FreeLee's web app uses the approach taken in The Earl Cadogan (and others) v Cadogan Square Limited  UKUT 154 (LC) to automatically estimate the value of 'Act rights'. This value can also be estimated in-app by comparison of the (Savills 2015 Enfranchiseable and Savills 2015 Unenfranchiseable graphs . You may choose to adjust the automatically generated discounts manually.
- Following Sloane Stanley Estate v Mundy  UKUT 0223 (LC) , a valuer should primarily consider local market sold-price data when estimating the above values. Some regard may also be had to sales after the relevant valuation date (Mallory v Orchidbase. Ltd  UKUT 0468 (LC)). Only where these data are insufficient, should published graphs of values from historical, negotiated settlements be used.
- Where relativity graphs are to be relied upon, the industry standard Gerald Eve curve is preferred.
- Values determined by previous Tribunal decisions are not normally to be considered. The Lands Tribunal has indicated that market evidence, agreements and actual analysis are always preferable.
- Asking-price data, or estate agents' opinions, are generally not evidential - even if supported by written offers from potential purchasers! It is hence important to rely upon sold-price data.
- The original decision in Sloane Stanley Estate v Mundy was confirmed by the Court of Appeal 26 January 2018 (Mundy v Sloane Stanley Estate Trustees  EWCA Civ 35 ). FreeLee's web app currently follows these recommendations. It should be noted, however, that subsequent to the Upper Tribunal determinations in Reiss v Ironhawk Ltd  UKUT 311 (LC) and Barry and Peggy High Foundation v Zucconi  UKUT 0242 (LC) users may also determine relativity using the negotiated settlement graphs published in the June 2016 Savills Report . This can be manually cross-referenced within the app with price-paid data from the District Land Registry or from third-party providers such as rightmove or Zoopla ). When preparing a valuation for use with legal Notices we strongly recommend using paid, human assistance - available via in-app purchases.
- Leaseholders can argue that improvements they have made to their properties should be discounted from the property value when calculating the cost of lease extension. For freehold purchase (Collective Enfranchisement) only improvements made to participating flats may be discounted.
- Qualifying improvement works include addition of a new en-suite bathroom, re-configuration of internal layout to add an extra bedroom or installation of double glazing where it was not present previously. Repairs, or like-for-like replacement of existing features, are unlikely to be considered.
- Bathroom or kitchen updates, flooring replacement or decoration costs generally do not qualify.
The Ground Rent
- Ground rent is rent paid by the leaseholder to the freeholder under the terms of the lease. It is generally a relatively small amount (£100 to £500 a year).
- When a freeholder sells a freehold they lose the income stream from future rent payments.
- After statutory lease extension, peppercorn (£0.01 per annum) ground rent should be payable. This essentially means that the lease will become rent free.
- In both cases the leaseholder must compensate the freeholder for loss of future ground rent. This future rent is capitalised into a lump sum constituting part of the cost of the freehold purchase or lease extension.
- In 70-80 years time, a ground rent payment of £100 will be worth much less in real terms due to general inflation. Future ground rent is hence discounted using a percentage value known as the 'Capitalisation Rate'.
- FreeLee's web app assigns a Capitalisation Rate automatically based upon the level of the rent due and the general area in which the property is located.
The Years Remaining on the Lease
- At the end of the lease, ownership of the property reverts to the freeholder. The freeholder loses this opportunity when the freehold is sold and must be compensated accordingly.
- A statutory lease extension increases the existing lease by 90 years. Similarly the freeholder must be compensated for this delay in their possession of the property.
- Compensation is determined by discounting the estimated value of the property with freehold-share using a percentage value known as the 'Deferment Rate'.
- FreeLee's web app automatically assigns a Deferment Rate based on legal case precedents.
- If the lease has only a few years remaining, the value of the reversion will be higher. This is because the freeholder expects to receive the property in the near future and must hence be compensated at a higher level for its loss.
- Banks and Building Societies may not provide mortgages on properties with leases of less than 70 years. This is because the value of the Freehold Reversion increases substantially with time and the property is less of a secure asset for the banks to loan against.
- Once a lease has less than 80 years remaining, legislation stipulates that the increase in the value of the property caused by lease extension or freehold purchase must be shared 50:50 with the current freehold owner. This additional charge is known as 'Marriage Value'.
- The relevant increase in property value is determined by 'relativity' - the 'no-Act world' value of the property as a percentage of the market value with share-of-freehold.
- FreeLee's web app enables determines default relativity from the Gerald Eve graph, following the recommendations outlined in Sloane Stanley Estate v Mundy  UKUT 0223 (LC) . Subsequent to the Upper Tribunal determinations in Reiss v Ironhawk Ltd  UKUT 311 (LC) and Barry and Peggy High Foundation v Zucconi  UKUT 0242 (LC) users may also determine relativity using the negotiated settlement graphs published in the June 2016 Savills Report . This can be manually cross-referenced within the app with price-paid data from the District Land Registry or from third-party providers such as rightmove or Zoopla . When preparing a valuation for use with legal Notices we strongly recommend using paid, human assistance - available via in-app purchases.
- For freehold purchase, Marriage Value is only payable by leaseholders of flats participating in the process. For non-participating flats, 'Hope Value' may be payable.
- Given the significant house price rises of recent years, small differences of valuer opinion on relativity can significantly affect estimates of the premium payable for lease extension.
- For flats which do not participate in freehold purchase, there remains a hope that those flats may request lease extensions in the future.
- During the freehold sale, the freeholder must be compensated for the loss of any future financial benefit from this hope.
- 'Hope Value' is more flexible than Marriage Value and is traditionally much less than the latter.
The Location of the Property
- Freeholds and lease extensions are generally more expensive in sought-after areas.
- The location of the property affects the Capitalisation Rate, Deferment Rate and relativity.
- Properties considered to be in 'Prime Central' London will be the most significantly affected. The boundaries of Prime Central London are, however, somewhat subject to debate.
- FreeLee's web app uses your postcode to determine if the property is in Prime Central London. Use the postcode checker below to see whether we are likely to consider your property as Prime Central London
- When a freehold is sold the freehold owner of all flats in the building will normally change. The premium corresponding to the freehold share of each flat must hence be paid for. This is the case even if a flat owner does not take part in the process.
- The premium due for non-participating flats will be split equally between the participating flats. Consequently, the more flats that take part, the lower the price per flat to be paid.
- Valuation of a single freehold-share is generally only carried out where the leaseholders have already bought the freehold, and a flat which did not originally participate decides to participate at a later date.
- During freehold purchase, following Cutter and others v Pry Ltd  UKUT 215 (LC) , leaseholders generally have the right to acquire:
- Any property let (demised) under the leases.
- Any property not demised under the leases which is used in common by the leaseholders. This may include parking areas, gardens, access routes or structural elements such as the roof. Loft and cellar spaces not demised under the leases may also be included.
- The leaseholders may not have the right to acquire:
- Any property to which the leaseholders have no access (such as ornamental gardens with restrictions against use).
- Any property not demised under the leases for which usage rights are provided to the leaseholders of a single flat only. An example is the provision of an exclusive right to use a single parking space. Where the parking space is not specifically demised under the lease, or shared in common with other leaseholders, a freeholder may argue for it be excluded from the freehold sale.
- When leaseholders acquire parts of a freehold not included in any of the leases, but used in common, these areas are generally valued according to 'Development Value'.
- The freeholder has a right to share in the value of any potential development opportunities arising by virtue of the marriage of leasehold and freehold interests following freehold acquisition by the leaseholders.
- Specifically, the freeholder may argue for a proportion of the projected increase in value to the property less development costs. The most common examples of relevant developments include loft and cellar conversions but may also include construction of new dwellings.
- It is important to fully understand the relevant leases in order to determine what is demised under the leases, what is used in common and what would be excluded from any freehold purchase. Leaseholders should consider, in order of priority:
- The written description of the property let (demised) under each lease.
- The lease plans.
- Leaseholder usage rights and freeholder maintenance responsibilities.
- Development Value determination can be highly complex. FreeLee's web app accommodates multiple Development Value scenarios. When preparing a valuation for use with legal Notices, however, we recommend using paid, human assistance - available via in-app purchases.
Development Value Examples
- New dwelling: The freeholder owns the loft space and successfully argues that it could be used to construct a new flat with appropriate access. The leaseholders are then required to potentially pay up to 50% of the difference between the projected development costs and the estimated value of the new flat. This is in addition to the premium payable for the existing flats. In such cases the cost may be prohibitively expensive for the leaseholders.
- Loft conversion: The freeholder owns the loft space but practical and planning restrictions mean that it would only be of use to the adjacent flat, directly beneath, as a potential loft conversion. The leaseholders of that flat generally pay Development Value during the freehold purchase and will acquire the loft space during the process:
- Under paragraph 4 of Schedule 6 of the Leasehold Reform Housing and Urban Development Act 1993 (LRHUDA 1993 - 'the Act'), if the lease of the adjacent flat has less than 80 years remaining, 'Development Marriage Value' will be payable. This is generally 50% of the difference between the projected conversion costs and the estimated increase in property value due to loft conversion.
- Paragraph 4(2A) of the Act, inserted by the Commonhold and Leasehold Reform Act 2002, precludes Marriage Value for leases of greater than 80 years remaining. In these cases 'Development Hope Value' will be payable. This is generally much less than Marriage Value.
- In extreme cases, it may hence be more financially effective for the leaseholders of the adjacent flat to obtain a lease extension before the freehold is purchased!
Development Value and Lease Extension
- There is no statutory right to acquire additional property outside of the demise of the lease during lease extension.
- The freeholder may decide to informally sell additional property independent of, or during, a lease extension. A common example is the addition of a freeholder-owned loft space to the demise of the lease during extension.
- In such cases the loft space is generally valued according to Development Value. With informal transactions, however, there is no binding formula and the freeholder may demand what they consider appropriate.
Loft Space Leases
- One strategy used by freeholders to retain control over any future loft-space development opportunities - even after the freehold has been sold - is to assign a long lease to the loft space. This lease is typically owned by an associated company or related individual.
- Under Section 2 of the the Act, the leaseholders generally have the right to acquire common parts (including the structure and exterior of the building) and any areas necessary for effective maintenance of the common parts.
- Following case precedents such as MRLON/00AG/OCE/2007/0218 and Kintyre Ltd v Romeomarch Property Management Ltd (2006) 1 EGLR 67 it remains a complex legal question as to whether leaseholders have the right to acquire a lease to the loft space during freehold purchase.
- If the loft-space lease specifically excludes the ceiling beneath and all roof structures it could be interpreted as irrelevant to maintenance of common parts. The lease would hence fall outside of Section 2 of the Act. Under that interpretation, the leaseholders would not be entitled to acquire the lease to the loft space. The owner of that lease would retain the loft space after completion of the acquisition of the freehold by the leaseholders.
- If the leaseholders do have the right to acquire the loft-space lease during freehold purchase they will be liable to pay for:
- A resident leaseholder may sometime find that there are one or more intermediary leases between the long-lease on their flat and the freeholder.
- Each intermediary leaseholder is the owner of the lease(s) beneath their own. Each intermediary lease hence has a longer term than the corresponding under leases. The lease where the freeholder is in the direct landlord is colloquially known as the "head lease".
- Example: A freeholder assigns a head lease for a term of 999 years to a piece of land. A block of flats is then built on that land by the head leaseholder who assigns under leases of 99 years to each new flat owner.
- As with the under lease owned by the leaseholder, intermediary leases may have obligations for ground rent and maintenance charges.
- In order to purchase the freehold, under leaseholders must also acquire the intermediary leases. They have the legal right to do this during statutory Collective Enfranchisement.
- Generally intermediary leases are neutral to the cost of purchasing the freehold. Ground rent or service charges due under an intermediary lease are either nill, or payable by the under leaseholders. Their relevance to freehold valuation is hence in determining what portion of the premium is payable to the head leaseholder as compared to the freeholder.
- Residential leaseholders should be cautious, however, of intermediary leases with significant ground-rent clauses which are not linked to the under leases. Such intermediary leases are often held by an associated company of the freeholder (which shares directors and often the registered address). For the associated company and the freeholder, payment of any ground rent due under such an intermediary lease is an accounting exercise - moving money from one affiliated company to another. When buying the freehold, however, under lease holders must compensate the freeholder for loss of this artificial ground-rent income. This can significantly add to the cost of the freehold without any corresponding benefit to the leaseholders.
- FreeLees web app does not yet take into account intermediary leases. This is planned for the next release.
- Some freeholds include flats without assigned long leases. These flats are directly owned by the freeholder.
- During statutory freehold purchase the freeholder has the discretionary right to a leaseback on such flats of 999 years at one peppercorn (£0.01) per annum ground rent.
- If the freeholder takes up this right, the value of the freehold flat will not be included in the freehold acquisition. Post freehold purchase, the previous freehold owner will become a long-leaseholder of that flat on the lease terms described.
- If the freeholder does not take up the discretionary right to the leaseback, the market value of the freehold flat will be payable during the acquisition of the freehold.