How to Navigate Escalating Ground Rents

By Peter Lewis, partner in Rosling King’s Real Estate Group

The issue of ground rents payable on leasehold properties has become a growing concern in recent years as many rents continue to increase, with some even doubling every 10 years, a rate that is higher than inflation. Approximately 4.5 million households in England and Wales own their homes on a leasehold basis and must therefore pay an annual ground rent. Regular and steep increases in these rents can have a considerable impact on leaseholders and lenders alike in terms of asset value and indeed whether such properties are mortgageable. The government has outlined a series of reforms to help address this and here we take a closer look at these reforms (although they have yet to be introduced by legislation) as well as some practical solutions which are available to leaseholders now, which are worth considering, when it comes to dealing with escalating ground rent provisions in their leases.

Originally, ground rents on residential long leases of flats were a nominal rate, at say £50 per annum and did not often change. Any increases were minimal (e.g. an extra £50 every 25 years of the term of the lease). Lenders and leaseholders were comfortable with this arrangement.

This started to change when landlords and developers realised that the right to receive such ground rents as landlords of a building had a useful sellable capital value. I.e. the sale of the landlord’s interest in the whole building of which the ground rent lease belonged to. If the ground rent increased on a regular basis then such capital value of the landlord’s right to receive the income, would be even higher.

Some landlords and developers have been granting new residential long leases reserving ground rents that double up to every 10 years, which ultimately results in extortionate levels of ground rent later on. For example, a lease which reserves an initial ground rent of £500 and which then doubles every 10 years will result in a ground rent of £16,000 per annum after only 50 years of the term. Mortgage lenders have now become wary of such escalating ground rents and the leases containing such provisions are becoming un-mortgageable, preventing leaseholders from selling their flats.

Solutions

To prevent this from happening, there are some immediate options available for leaseholders to pursue. A first point of call can be for the landlord and leaseholder to agree to vary the lease, so the escalating ground rent provisions are removed. This is the most obvious and straightforward option but a landlord does not have to agree to this and if it does, it may charge the leaseholder a substantial premium – as the landlord would be giving up the right to receive the escalating ground rent which both reduces the landlord’s future income, as well as reduces the landlord’s capital value of its interest in the building that the lease/flat forms part of.

A leaseholder could instead look to use a statutory procedure available to it to extend the term of its lease by 90 years, of which ground rent no longer becomes payable under the new extended lease. However, the landlord is entitled to compensation from the leaseholder for having to grant the extended lease that then contains no proper ground rent provisions and the procedure comes with a financial cost to the leaseholder to implement it.

In both of the above two scenarios, the leaseholder is required to pay a capital sum to the landlord. In many instances, they may simply not have this money. If this is the case, there are other potential options available.

One option is to apply pressure on the landlord/developer. For example, the Competition & Markets Authority (CMA) began enforcement action against some of the major property developers (including Countryside Properties and Taylor Wimpey) last year running the argument that the escalating ground rent provisions in some of the leases they granted were unfair and unenforceable as ‘unfair contract terms’ under consumer protection laws. Consumer protection law may not be the solution for leaseholders though, because whether the escalating ground rent provisions are legally deemed to be ‘unfair’ and therefore not enforceable under consumer protection law is dependent on the wording of the escalating ground rent provisions and the circumstances of the transaction under which the leaseholder purchased the lease.

Some landlords, when concerned about bad publicity, have been known to agree to amend leases in order to make them acceptable to mortgage lenders, so as to make them sellable. However, this will often depend on the size of the landlord as well as the ability of the leaseholder to generate enough media attention or bad will against the landlord, which will often be difficult, given that the leaseholders are often individual people in these scenarios with limited resources.

A leaseholder may also consider suing their lawyers who acted on their purchase of the lease and who didn’t advise them of the escalating ground rent provisions in their lease. Such action must be taken within the statutory time periods which is ordinarily six years from the purchase of the lease (subject to some limited exceptions), however, a successful claim is no guarantee.

Government reforms

In January this year, the Housing Secretary announced that millions of leaseholders will be given the right to extend their leases by a maximum term of 990 years at zero ground rent (a significant increase from the previous 90-year extension of leases of flats).

The Housing Secretary also announced that a cap will be introduced on ground rent payable when a leaseholder chooses to extend their lease or become a freeholder. Prohibitive costs such as ‘marriage value’, which forces the leaseholder to share any potential profits from the lease extension with the landlord, will be abolished. The government is also looking to set the calculation of rates of extension in a manner that will ensure they are fairer, cheaper and more transparent.

It is important to note however that these announcements have yet to come into force by way of legislation and they do not automatically get rid of the escalating ground rent provisions contained in a lease. Once implemented however, it would certainly appear to improve the bargaining position of a leaseholder in a lease extension procedure with a landlord, when looking for a solution to remove the escalating ground rent provisions from its lease, thus making it acceptable to a mortgage lender again and ultimately sellable.