What you need to know about buying a leasehold property
Owning a leasehold property is a more complicated and potentially more costly proposition than owning a freehold property. Here is everything you need to know before you buy a leasehold property:
What is Leasehold?
Leasehold is essentially a long-term rental agreement (the lease) - typically between 99 and 999 years. If the lease is not extended, then it will ultimately expire.
The lease is issued by the freeholder (also referred to as the landlord) for the fixed period, after which the right to use the property reverts to the freeholder.
Most flats in England and Wales are leasehold, even if there is a share of the freehold owned by the leaseholder.
There are also a growing number of leasehold houses.
How is Leasehold different from Freehold?
If you own a freehold property you own the building and the land on which it is built. As a freeholder you will own the property in perpetuity.
If you own the freehold, you own the right to use the property (in accordance with the lease) until the lease either expires or is extended.
Furthermore, if you don’t or are unable to pay the various fees including service charges and ground rent then the lease could be forfeited which could ultimately lead to your eviction.
Service charges are fees charged annually (usually) by the freeholder to cover the freeholder’s cost of maintaining the property and grounds. It may also be used to contribute to a sinking fund that would be used to pay for major works in the future, such as a new roof.
Leaseholders will usually have to pay an annual rent known as ‘ground rent’ to the freeholder or landlord.
Ground rent is essentially an amount paid to rent the land that the property occupies from the freeholder.
The amount of ground rent, and when and how frequently it must be paid, will be set out in the lease. Ground rent is usually relatively low-typically around a £100 a year. It may be substantially higher, however.
This is particularly the case of a growing number of new build houses that contain clauses in the lease allowing for the ground rent to be reviewed periodically. In some cases, rent can be doubled every 10 years. This is known as a spiralling ground rent and your conveyancing solicitor will need to scrutinise this clause in detail.
Administration fees often charged by the freeholder for ‘services’ provided in conjunction with the buying, selling and owning of the leasehold.
For example, sellers will be expected to pay for management information that the freeholder will need to provide to a buyer during the conveyancing process. This information will include things like details of service charges, disputes and any planned major works.
Some leases will require the seller to obtain a ‘licence to assign ‘from the freeholder. The licence to assign is effectively a licence to sell the leasehold onto another buyer.
Details of any administration fees should be set out in detail in the lease.
Should I get a copy of the lease before making an offer?
A copy of the lease is not usually included with the particulars of the property during the sale process. This is surprising, considering it is technically the lease that you are purchasing rather than the property itself. As the lease includes details of the associated rules and costs of living of property, it would be helpful to see the lease before you make an offer.
Most buyers only receive a copy of the lease during the conveyancing process, possibly 4 to 6 weeks after the offer is accepted. If the lease contains clauses that the buyer is not prepared to accept, and the buyer subsequently withdraws from the purchase, a lot of time and money will have been wasted.
Buyers are advised to ask the estate agent to provide a copy of the lease before making an offer. Buyers should then read the lease or, better still, ask a conveyancing solicitor to do so.
If the agent, or seller, is unable or unwilling to provide a copy of the lease, it is possible to obtain a copy from the land registry at the following link.
Will I be able to extend the lease?
As a leaseholder you have certain rights that entitle you to extend your lease.
If you have owned your lease for two years or more, you have the right to enter negotiations with the freeholder to extend your lease. This process can be done either informally, or by following a formal route.
If you follow the formal route your lease will be extended by 90 years for a premium agreed with the freeholder. If a premium cannot be agreed following a professional valuation, the leaseholder could ultimately take the freeholder to the leasehold valuation Tribunal (LVT).
It is highly advisable to extend your lease before it falls below 80 years. The reason for this is that when the lease drops below 80 years then the freeholder can also ask for 50% of the property’s ‘marriage value’. Marriage value is the estimated amount of extra value that would be added to the property by extending the lease.
If the lease is below 70 years it will be harder to obtain a mortgage - below 60 years it will be near impossible if the buyer requires a mortgage. It will consequently be very difficult to sell the property with an unexpired lease term of less than 60 years.
Practically speaking if you’re a leaseholder with less than 90 years to run on your lease you should be thinking about extending if you can.
Buying a leasehold
If you’re buying a leasehold property you should read the above ‘existing leaseholders’ as it explains what the situation will be once you become the new owner.
The key point here is that once you become the new owner you will have to wait two years before you can start the formal process of extending your lease. If the lease you are buying only has 82 years to run, then you could find yourself having to pay marriage value when you extend.
There is a workaround however which your conveyancing solicitor should be familiar with. If you ask the seller to serve a formal 'Section 42 Notice' to begin the lease extension process, the seller can then assign the right to continue that process to the new owner. This way you bypass having to wait two years before starting the process yourself.
What is a 'share of freehold'?
Owning a share of the freehold is when a leaseholder also owns a share in the freehold.
The share of freehold can be set up in one of two ways:
- The freehold is held in a company structure and the leaseholder owns shares in the company
- The freehold is divided directly into shares and held personally by the leaseholder
Will I be able to buy the freehold?
Under the process of ‘collective enfranchisement’ leaseholders have the right to acquire the freehold of their properties, providing certain criteria are met. This right has existed since 1993 but was further clarified by the ‘commonhold and leasehold reform act 2002’.
The criteria to qualify for collective enfranchisement are:
- Eligible tenants must own leases with over 21 years to run
- The block must contain two or more flats which are owned by eligible tenants
- Two thirds of the flats must be owned by eligible tenants
- 50% or more of the tenants need to participate in the process
It is important to understand that if you are acquiring the freehold with fellow leaseholders, then you are acquiring a share in that freehold in addition to leasehold. The freehold will need to be held in the form of individual shares or, more commonly, in a management company set up to manage the freehold.
The terms of the lease will still apply and as such will need to be honoured by both the leaseholders and the freehold company. However, this situation is often preferable as it gives the leaseholders a greater degree of self-determination over how the block is managed.
Properties with a share in the freehold will be easier to sell.
There will of course be a cost involved in acquiring the freehold and it may work out cheaper to extend the lease.
A summary of the disadvantages of owning a leasehold property:
There are various disadvantages, however some of these will depend on how the property is managed:
- A lease is essentially a long-term rental agreement. When it expires you would have to approach the freeholder to purchase a new lease which would be very expensive. The freeholder does not have to consent to granting a new lease.
- You will have to pay service charges. Although there are rules governing the setting of service charges, the process is open to abuse by unscrupulous freeholders.
- The lease will contain any number of conditions setting out how you can use the property. For example, you may not be able to sublet it or keep pets.
- If the lease is short (less than 80 years) it will be difficult to mortgage and sell.
- If you want to modify or extend the property, you will usually need the permission of the freeholder. This could incur substantial fees and the freeholder may refuse.
Are there any advantages to owning a leasehold property?
There are several advantages to owning a leasehold property:
- Leasehold properties are usually more affordable to buy than freehold
- If you have any noisy or problematic neighbours, you can complain to the freeholder. The freeholder is then obligated to take action in accordance with the terms of the lease.
- The freeholder, or their managing agent, should maintain all the communal area and gardens for y9u.
- Buildings insurance will be taken care of by the freeholder or Landlord for the whole block. The cost of the policy will be shared by all leaseholders.
What about Leasehold houses?
While you expect a flat to be leasehold, there is now also a trend for developers to sell new build houses as leasehold.
Many experts argue that there is no valid reason for a developer to retain the freehold of a house. It is argued that leasehold houses are conceived purely for the developer’s financial benefit and at the expense of the leaseholder.
There are several concerns with leasehold houses which are discussed in the following article:
A leasehold property is a declining asset
A key point to remember is that a leasehold property is a is a declining asset known as a ‘wasting asset’.
The way in which leasehold properties depreciate is non-linear and can be confusing.
When the lease expires i.e. there is no time left to run on the lease the lease is technically worthless. However, this does not mean that an initial lease of 100 years has depreciated by 1% per annum.
There are several milestones in the term of the lease where depreciation accelerates e.g. when the lease drops below 80 years and when at around 60 to 70 years, lenders will no longer offer a mortgage on the property.