The £38.6 million recently raised by way of share placing by the Ground Rents Income Funds (managed by Braemar Estates) provides further confirmation of the growing interest in the investment potential of ground rents.  The past two years have seen RCP Group, Aviva Investors and Pramerica Real Estate Investors all launch funds potentially worth a combined £770 million exclusively focused on securing the income stream provided by ground rents.

However, landlords should be wary of the provisions of the Landlord and Tenant Act 1987, which places restrictions on their ability to dispose of premises with residential tenants.

Offer notices

Section 1 of the Act gives qualifying tenants (broadly, residential tenants) a 'right of first refusal' over the disposal of the freehold premises; a landlord cannot sell the property to a purchaser without first offering the premises to the tenants on the same terms.

The landlord must wait for at least two months from the date of service of the offer notice for the offer to be accepted or rejected by the tenants.  If the tenants choose to accept, they must nominate a purchaser to acquire the premises on their behalf.  During the offer period, the landlord can only sell to the tenants' nominated purchaser.

However, a landlord cannot be compelled to sell to the qualifying tenants.  Until the point where a binding contract has been entered into with the nominated purchaser, the landlord can choose to withdraw from the transaction.  However, the landlord cannot sell the premises on any terms for twelve months after serving a withdrawal notice.  

Penalties

These obligations are onerous: landlords must be careful to factor in the significant delay into the timetable for the transaction, and be prepared for the time-consuming exercise of serving the offer notices.  The penalties imposed on a landlord for failing to comply are severe.  A landlord who, without reasonable excuse, sells the premises to a third party purchaser without making the required offer, or fails to abide by the 'lockout' period following the offer, will be guilty of a criminal offence, and liable for an unlimited fine.  Where the landlord is a corporate entity, its officers could also be liable in their personal capacity.

Purchasers at risk?

The validity of the sale itself will not be affected by the landlord's failure to comply with its obligations under the Act; the purchaser will still acquire good title to the premises. However, a majority of qualifying tenants have the power either to compel the purchaser to transfer the property to the tenants' nominated purchaser, or effectively 'take the place' of the purchaser and acquire the premises, in both cases on the same terms as agreed in the original transaction.

Prudent purchasers should therefore serve information notices on the tenants under the Act, which are designed to flush out the extent to which the landlord has complied with its obligations.  This step confers a further benefit: correctly serving information notices will allow the purchaser to take the premises free of any rights bestowed on the tenants under the Act, regardless of the actions (or omissions) of the landlord.