9 January 2020

Reducing the price of Enfranchisement, The Law Commission's latest report

The Law Commission has today published its report on reducing the price payable by leasehold home owners when exercising enfranchisement rights.

This latest report sets out the Commission's recommendations on the valuation aspects of their consultation. They intend to publish three further reports shortly. One will cover all other aspects of a reformed enfranchisement regime, including qualification and the process for bringing a claim, with the remaining two reports looking at right to manage and commonhold.

Having had significant input into its consultation from the valuation industry, in the first instance the present report looks to demystify what is often a technical and complex area, and in particular explains how 'marriage value' is calculated. Alongside why the law governing human rights is highly relevant to valuation reform.

Whilst much of the report was well rehearsed in the consultation itself, the report surmises that the Government must first decide the issue of marriage value before considering the further sub-options for reform which could be implemented, and rejects the idea of a simple formula (for example based upon a multiplier of ground rent or percentage of freehold value) being appropriate in all cases.

Marriage Value

While leasehold scandals such as onerous ground rents and excessive administration fees have been widely publicised, the complex story of valuation and marriage value in particular has attracted less media attention. However, it is an issue which can be as disadvantageous to leaseholders looking to enfranchise.

Essentially marriage value is a (potentially significant) additional payment that must be made by leaseholders with less than 80 years of their lease left to run, which reflects that the value of owning the freehold outright is worth more than the sum of the freehold and leasehold interest in separate ownership. It assumes (which reflects the reality of an enfranchisement claim) that the leaseholder is the purchaser of the asset, as opposed to a sale of the property on the open market. In the example calculation referred to by the Law Commission in the summary of their report, the inclusion of marriage value almost doubles the ultimate premium payable.

The report identifies that before looking at other potential variables in an enfranchisement valuation, the question of whether marriage value should be payable needs to be addressed by Government.
They have accordingly put forward three options for a new regime. Firstly they suggest you could reverse the above assumption so the leaseholder is never in the market to purchase the improved asset, resulting in there being no marriage value payable. Secondly, and as a half-way house, they suggest a revised assumption that the leaseholder is not in the market now, but might be in the future. This would result in a 'hope value' being payable (this is a lower amount paid on the basis that the purchaser might 'hope' that they will sell the freehold to the leaseholder in the future which would realise the full marriage value). Finally, it is suggested that marriage value should remain as per the current law.

Sub-options for reform

Once an overall scheme has been decided upon, the report then identifies various sub-options for reform, which primarily consist of:

  • Prescribing rates which are often contentious (namely capitalisation, deferment and relativity).
  • Capping the treatment of ground rent, so that those which become onerous (i.e. ground rents that are above 0.1% of the freehold value) do not form part of the calculation.
  • Instead of requiring leaseholders to pay for development value, they could agree to accept a restriction in favour of the landlord on future development which might then be released on payment of a premium if a development scheme was implemented.
  • Differential pricing for different leaseholders, so that owner occupiers pay lower premiums than commercial investors.

The Law Commission also suggest that you could remove some potentially leaseholder friendly but more complex aspects of the calculation, namely: the arbitrary 80 year cut off for marriage value if its retained; the discount for leaseholders' improvements; and the discount for the risk that a leaseholder may remain in occupation at the end of the term.

But in all three cases, their removal is suggested only in conjunction with other reforms that would have the overall effect of reducing premiums for a majority of leaseholders.

Conclusions

Finally the report concludes that leaseholders would benefit from an online calculator, which would simultaneously make premiums more certain and reduce professional fees. However, it is accepted that this will only be possible if rates are prescribed.

Freeholders will be relieved to note that the possibility of a simple formula based upon a multiplication of ground rent has been rejected as a possibility for wholesale reform given the risk of a successful challenge on human rights grounds. Albeit the Commission consider it could be used in a limited category of cases referred to as 'straightforward and low-value claims' similar to the current system in Scotland which applies to leases with a long unexpired term, and a low or static ground rent.

The role of human rights law was clearly carefully considered, and the report quotes an opinion obtained from a specialist QC in this area. The Human Rights Act 1998 provides for protection of property and states that no one shall be deprived of their possessions except in the public interest and subject to the conditions provided for by law and by the general principles of international law.

Freehold investors include charities and pension funds as well as others wanting long-term, dependable assets, and many have made it clear that they would challenge any reforms which might lead to the value of their investments decreasing significantly in a way which is incompatible with human rights legislation.

Next Steps

The Law Commission now invites the Government to decide which option to pursue, and ultimately to pass an Act of Parliament to implement that reform. Which sounds straightforward, but as they say, the options are detailed, nuanced, and reflect the limitations of human rights law.
The Government introduces plans for new laws each year in Parliament, and the proposals for reform did feature in the Queen's Speech delivered in December 2019. That being said, in the current political climate, whether or not they will be prioritised or addressed at all in the upcoming session remains to be seen.

Emma is a senior associate in our Property Litigation team.

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