On 19 March 2019 the Housing, Communities and Local Government Committee (Committee) issued its report on leasehold reform (Report). The Report breaks new ground by making recommendations that go considerably further than the previous government-led consultations and which, if implemented, would bring about a significant overhaul of residential ownership in England and Wales.

Summary

The Report's key conclusions were:

  • The government should ensure that commonhold becomes the primary model of ownership of flats in England and Wales.
  • It would be possible for the government to legislate to remove onerous ground rents in existing leases. Current ground rents should be limited to 0.1 per cent of the present value of a property, up to a maximum of £250 per year.
  • The government should require ground rents in new leases to be capped at a peppercorn.
  • The Competition and Markets Authority (CMA) should investigate mis-selling in the leasehold sector within the next six months and make recommendations for appropriate compensation.
  • The government is right to seek to extend the right of first refusal to leasehold house owners. We examine the key recommendations in further detail below.

Background

In 2017 the government turned its attention to leasehold practices. There was a growing media and political concern that residential long leaseholders were not always being treated fairly and that some bad practices had started to creep into the market. Fast forward to October 2018 and the Ministry of Housing, Communities and Local Government issued a consultation on "implementing reforms to the leasehold system in England" making it clear that the government was intent on:

  • banning the sale of new leasehold houses; and
  • imposing a statutory cap of £10 on ground rents for new leases of residential property granted for terms in excess of 21 years (residential long leases).

The Report

While the previous announcements and consultations made it clear that there was discontent in the residential leasehold sector, the Report suggests that this discontent is deeper and more widespread than perhaps previously thought. Indeed one of the key conclusions is that "the government should invite, and fund, the Law Commission to conduct a more comprehensive review of leasehold legislation", a sentiment echoed by a number of commentators.

Taking a relatively pro-leaseholder stance, the Report outlines a number of recommendations to tackle the problems. The Report backs the proposed ban on the sale of new leasehold houses and also a statutory cap on ground rents, although it recommends that the cap be set at a peppercorn (i.e. no financial value) rather than the government's suggestion of £10. However, the Report goes further and includes more eye-catching proposals. Of those the suggestions that commonhold should become the new norm for flats and that the government can and should legislate to tackle onerous ground rents and permission fees in existing leases are the most headline-grabbing.

Commonhold

The Report states that the government should "ensure that commonhold becomes the primary model of ownership of flats in England and Wales" (with exceptions for complex mixed-use developments and retirement properties). To understand where this recommendation is coming from it is important to recognise why the Committee felt that leasehold (or as the Report prefers to call it, lease-rental) is not the optimum ownership model, for example:

  • the Committee was unconvinced by reports that freeholders necessarily provide a higher level of service than could be provided by leaseholders themselves if they managed their own properties; and
  • the relationship of landlord and tenant is one where the parties are set up in opposition to each other and this can lead to conflict.

In contrast commonhold (a form of freehold tenure for units within multi-occupied buildings, with shared responsibility for common services) offers the chance for individual owners to participate in the management of the communal areas and shared services without the need for leases or third party freeholders.

However, there is a catch. While the Commonhold and Leasehold Reform Act 2002 introduced commonhold as a new form of tenure, it has not been greeted with much enthusiasm. At present there are estimated to be fewer than 20 commonhold schemes in the country and little incentive for developers, investors and funders to commit to such schemes. Although many would agree with the Committee that flat owners themselves could provide the same level of service as freeholders, there are some concerns as to whether this would in practice be the case across all multi-let buildings. There is a common sentiment that commonhold needs an overhaul itself first if it is to be the successor to leasehold for flats. The Law Commission is working on this – its consultation on commonhold closed earlier this year. As such the Report's recommendation that commonhold should replace leasehold is a suggestion that may well be easy to make but hard to deliver.

Onerous lease terms in existing leases

Perhaps the most radical suggestion coming out of the Report is that "it would be legally possible for the government to introduce legislation to [retrospectively] remove onerous ground rents in existing leases". So far, while there has been sympathy for existing leaseholders there has been little appetite to directly intervene by legislating to amend existing binding terms. The Committee clearly feels there is both the need and the scope for action.

The Report recommends legislation to cap existing ground rents at 0.1 per cent of the present value of the property, up to a maximum of £250 per year. Further, ground rents should not be allowed to increase above £250 over time, by RPI or any other mechanism.

Interfering with existing contractual arrangements is far from straightforward. Among the most obvious objections to a cap on existing ground rents are the provisions of the European Convention on Human Rights, particularly Article 1 of Protocol 1, which relates to the peaceful enjoyment of possessions. The Report addresses this and provisionally suggests that a cap on existing ground rents would amount to "control of the use of property, rather than expropriation". While the Report recognises that "freeholders would probably need to be compensated in order to ensure the legislation is compliant with human rights law", it goes on to state "but that compensation need not necessarily be full value".

The recommendations for legislation to interfere with existing lease terms does not stop there. The Report suggests that "the government should also introduce legislation to restrict onerous permission fees in existing leases". Permission fees are fees payable to freeholders for certain consents – for example for consent to alter leasehold premises.

Possible CMA Investigation

The Report shows there is a significant disagreement between residential developers and witnesses who drew parallels with the mis-selling of payment protection insurance. In November 2018 the Secretary of State for Housing Communities and Local Government, James Brokenshire, urged the CMA to undertake a market study into onerous ground rents and to bring a test case. However, a CMA spokesman in March 2019 remarked that "the issues around ground rent clauses are well known and a market study would shed little further light".

As such it remains to be seen whether the CMA will investigate alleged mis-selling in the leasehold sector. However, political pressure is undoubtedly building on the CMA to act. What is also abundantly clear is that developers will rigorously defend their actions in any investigation.

Proposed extension of right of first refusal

The Report gives a clear recommendation that the right of first refusal be extended to leasehold house owners. The Law Commission is also looking at such an expansion. However, the Landlord and Tenant Act 1987 is arguably one of the worst pieces of property legislation in force. Therefore, any expansion must take place alongside reform of that legislation as it is ripe for substantial change, which, if sensible, will benefit the entire property sector.

Going forward

While the recommendations from the Report are not binding it is expected that the government will respond within the next two months, although the legislative changes required to implement the proposals will take some considerable time. Whatever the merits of the recommendations that have been made, all parties need to think carefully about how any changes are effected – it is no good proposing commonhold and extending the right of first refusal as the way forward until the overhaul of the relevant legislation has completed – and any retrospective interference with existing leases needs to achieve a delicate balance between fairness to leaseholders and fairness to freeholders.

March 2019 Select Committee Report on leasehold reform.
December 2018 Law Commission issues consultation on commonhold.
October 2018 The Ministry of Housing, Communities and Local Government issues a consultation on "implementing reforms to the leasehold system in England".
December 2017 The Government issues its response to the 2017 consultation. It announces that it intends to implement a ban on the sale of new leasehold houses and impose a statutory cap on ground rents for new leases of residential property granted for terms in excess of 21 years (residential long leases).
July 2017 Department for Communities and Local Government launches a consultation paper "Tackling unfair practices in the leasehold market", seeking views on "prohibiting the sale of new build leasehold houses, limiting ground rents and protecting leaseholders from possession orders".
February 2017 Housing White Paper issued which highlights the government's aim to "improve customer choice and fairness in the leasehold sector" and its "commitment to consult on a range of measures to tackle unfair and unreasonable abuses of leasehold".