The initial excitement experienced by tenants undertaking a collective enfranchisement claim for the freehold of their building can be overshadowed by disputes between the parties. A claim can take a number of years, involve substantial sums of money and is undertaken without any real statutory guidance from the Leasehold Reform, Housing and Urban Development Act 1993 as to how the parties should conduct themselves. Consequently disputes between the participating parties may erupt at any time during the process. So how can the parties reduce the likelihood of a dispute arising?
The starting point is a participation agreement. A well-drafted agreement with comprehensive provisions dealing with sales, purchases, withdrawals, funding, the form of new lease and the future governance of the company which will hold the freehold, can go some way to minimising disputes and regularising the position. Preferably, the claim should only be commenced after the agreement is signed by all the parties.
The agreement should provide for the funds to be provided in good time and on a strict notice period to meet the various time limits. In default the individual contributions may be re-apportioned but this may not be feasible if the sums are large. Exchange of contracts should not occur until all the completion funds are received. Failure to provide the funds can lead (where there is no pre-completion contract) to a deemed withdrawal, with a bar on submitting another claim for a year. If completion is late, after exchange of contracts, penalties can include contractual interest, a forfeited deposit or an order for specific performance. This is likely to bring discord between the participants in its wake.
Financial involvement from third parties
One obvious sticking point is where a number of tenants do not wish to participate in the enfranchisement process and hence are not contributing to the purchase price. This nonparticipant element of the premium may be considerable, but there are individuals and companies offering ‘white knight’ funding in exchange for shares in the company. There are also banks providing finance for the non-participant element, although it remains to be seen in these times of ‘credit crunch’ if this will still apply. Any additional funding should be investigated before commencing the claim and no written contracts for third party funding (save by way of loan) should be entered into before an exchange of contracts.
On completion the landlord is entitled to recover any uncollected service charge expenditure. The company may be faced with a demand for service charges before completion which is unquantified and therefore unfunded. The company has a choice: to complete whilst reserving its position, make an application to the LVT and/ or agree a retention. Service charge anomalies should be identified at an early stage and certainly before exchange of contracts.
Form of lease
A building may be subject to several forms of lease. The terms of the new lease should be agreed before commencing the claim but, for various reasons, this is not always possible. Disputes can arise when the mechanism for apportioning service charge in the existing lease varies from lease to lease and the participants cannot agree on how the new leases should reapportion the service charge. The new lease should be drafted so as not to be inconsistent with any non-participant leases and should include covenants to contribute to the freehold company’s management and statutory costs and to assign the shares in the freehold company on assignment.
Tenants can find it hard to understand that they may have several extra roles following completion, such as director, shareholder and tenant. Each role brings its own obligations.
Disputes following the claim usually relate to the conduct of tenants who believe, wrongly, that, as they ‘own the freehold’, they are entitled to deal with their flat as they see fit. The participants must be made aware that they are still subject to the covenants in their lease which are not extinguished because they own a share in the freehold.
Conflicting personalities arise more often than not and we always advise, even in smaller buildings, that a managing agent be appointed to depersonalise the management of the building.
Where the tenant is a company, or is non-resident, there is often a reluctance to provide a director. The Companies Act 2006 has simplified the administrative processes for a private company, but the management of a building is impossible without sufficient directors. Each enfranchising tenant should be encouraged to be a director, or nominate another party to act as one, so as to be part of the decision-making process.
Shareholders may call an EGM on short notice, appoint and remove directors and make an application to the court if they consider they have been prejudiced by the conduct of the company.
Key points: For the enfranchisement process to run smoothly, the tenants must take advice early. A well drafted agreement can prevent most disputes which might later arise.
Tenants need to understand their legal position and roles after the claim has been successful. The freehold is owned by the company, not by the individuals, and the newly-formed company is the landlord of both the participating and non-participating tenants.