If property values reduce following the aftermath of Covid-19 then the Landlord’s freehold interest is likely to decrease in value too. Now is the time to consider whether you want control of the freehold to your property:

The Leasehold Property Team: leaseadvice@meaby.co.uk

Collective enfranchisement is a catch all term to describe the process of tenants coming together to purchase the freehold of their building. There are two main ways in which you and the other tenants in the building can collectively enfranchise. The first is to negotiate a sale by agreement, which I refer to as the informal method. The second is for the tenants to collectively claim their statutory right to purchase the freehold, which I will refer to as the formal method.

Whichever method you use, profit is usually the freeholder’s main or only objective, whereas you will have a number of issues to consider when deciding whether or not to enfranchise, such as:

1. How much will this cost us? Even though this is not your only concern, it is fundamental to know whether or not you can afford the process at the outset. A specialist valuation from a suitably qualified surveyor will assist with this, together with the estimates of cost attached to this letter;
2. Will this make our service charges cheaper? Whilst tenants often approach me looking to enfranchise because of unreasonable charges made by their landlord, it is important to realise that maintenance and insurance costs will still be incurred and the tenants will still have to pay their individual shares. It is worth looking at the costs that your landlord is currently charging to you and comparing these with quotes from the wider market, just so you know whether or not your current charges really are too high;
3. Will we be able to manage the building as we see fit? In a sense, yes you will, however you will also be taking on the obligations on the part of the landlord that are contained in the leases. This will restrict what you can and cannot do and sometimes the obligations are quite onerous and/or time consuming. Also, once you are freeholder, you will have to deal with questions and comments from the tenants (especially those who have not participated in the acquisition) about the management of the building. Getting rid of the landlord means getting rid of someone to blame if things go wrong; and
4. Will we be able to extend or vary our leases once we are freeholders? Yes, this is often one of the most attractive aspects of acquiring the freehold. If your leases are running short you will be able to grant new extended leases at a peppercorn (nil) ground rent without paying a freeholder a premium. Also if the leases are defective or simply dated by modern standards you can easily have new leases drafted to deal with any issues.

The following is a brief overview of the two methods. Both methods rely fairly heavily on negotiation between the parties.

The informal method

This is often the most straight forward means of acquiring the freehold. There are no particular qualifying criteria or unusual procedures, as the tenants are not exercising their statutory right to enfranchise. All that is necessary is for some or all of the tenants to approach the freeholder to negotiate a sale of the freehold, much the same as one might approach the owner of a house to enquire whether the property is for sale.

The key point here is that the sale proceeds by agreement. You must always bear in mind that the freeholder is under no obligation whatsoever to sell to the tenants.  All the terms of the sale, such as purchase price and the extent of the property the tenants intend to buy, are up for negotiation. It will therefore come as no surprise that often the main topic on the negotiating table is how much the tenants willing to pay for the freehold.

Once you and the other tenants have reached agreement that you would like to proceed, you are often best advised to obtain a professional valuation from a surveyor. This valuation is specific to enfranchisement and is not the same as a normal valuation of a property that you might obtain if you were buying a flat or a house. Instead it uses a statutory formula, evidence gathered from comparable properties, the terms and remaining years on the leases (the latter of which is particularly important) and various factors and assumptions that your surveyor will use to calculate the amount that the freehold interest is worth.

Your surveyor’s valuation will give you a range of values:

1. A low, best case scenario value;
2. A middle value representing what the surveyor thinks is the actual value of the freehold; and
3. A high, worst case scenario value.

Once you have this valuation, you (or I) can then approach the freeholder to ask whether they would be interested in selling and begin what in theory can be a relatively short period of negotiation over the price and any other terms of the deal. I say in theory because as mentioned above, the valuation of the freehold takes into account the remaining terms of the leases. Therefore the longer negotiations take, the more the freehold is worth as every passing day reduces the length of time left on the leases. Landlords know this and sometimes they will attempt to drag out negotiations so that they can extract a higher price. If we think that the landlord is not negotiating in good faith, we can always serve notice under the formal procedure which will put a stop to this (see below).

When the terms have all been agreed, the parties’ solicitors will prepare the documentation needed to transfer the freehold to you. If there are a number of flats in the building who are participating you may wish to instruct me to incorporate a company to take ownership of the freehold on your behalf. The legal title to the freehold can have a maximum of four registered proprietors, therefore if there are more than four tenants we can have the company take the freehold with the tenants taking shareholdings in the company to ensure all participating tenants have a stake in the freehold.

It is standard practice for the tenants to pay for the landlord’s legal and valuation costs. Even if you have obtained your own valuation, the landlord will most likely want their own, which you may or may not be allowed to have sight of it. Given that the statutory process guarantees that the tenants are liable for these costs, it is highly unlikely that the landlord would not insist on an undertaking for payment prior to instructing his solicitors and valuer to begin work.

The formal method

The Leasehold Reform, Housing and Urban Development Act 1993 created a right for tenants of flats to collectively claim the freehold of their building, together with any common areas such as communal gardens and parking areas which the tenants have rights over in their leases. The legislation is complex, but broadly speaking tenants qualify for the right if:

1. They hold a residential lease which was originally granted for a term of over 21 years. This means commercial tenants and short term lets will not be considered qualifying tenants;
2. Their building contains two or more flats held by qualifying tenants and at least two thirds of the flats in the building must be held by qualifying tenants. For example, a building with three flats in it, two of which are held by qualifying tenants and one of which is let on short term lease, would pass this requirements as it has two flats held by qualifying tenants and those two flats make up two thirds of the total number of flats in the building; and
3. No more than 25% of the internal floor area (excluding common parts) can be used for non-residential use. This requirement can pose a problem if there is a small number of flats and a large commercial part to the building, for instance a shop of the ground floor.

As is the case with the informal process, obtaining a specialist valuation is one of the first steps. The valuation will allow the tenants to make an informed decision as to whether they can afford to proceed with the claim. It is also advisable to prepare a participation agreement between all of the participating tenants before notice of the claim is served on the landlord. This agreement can cover a number of matters, but in its simplest form it will stipulate how the costs of the transaction are to be shared between the tenants so that everyone knows their share of the costs at the outset.

To begin the claim, a minimum number of qualifying tenants must serve formal notice on the landlord. The minimum number is 50% of the total number of flats in the building, so using the example in point 2 above, both qualifying tenants would need to serve the notice. The notice has to be carefully drafted as the legislation has strict requirements that must be complied with to avoid the notice being considered invalid. The notice will contain various provisions and proposals about the terms of the transaction. The most important proposal is, unsurprisingly, the amount that the tenants want to pay for the freehold. The proposed price must be reasonable, therefore we would rely on your surveyor’s valuation and insert the low best case scenario figure into the notice. This is in effect an opening offer to begin negotiations as represents the absolute minimum the tenants will pay.

Once notice is served on the landlord, the tenants become liable for the landlord’s statutory valuation and legal costs. The initial notice will give the landlord a deadline for the landlord’s to serve their own counter notice which is at least two months after service of the tenants’ notice. This is a strict deadline. If the landlord does not serve the counter notice within this time period, the tenants will be entitled to apply to court to have the freehold transferred to them at the price proposed in their initial notice. The landlord will clearly be eager to avoid this, therefore it is highly unlikely that they will fail to serve their counter notice. The counter notice will either accept or reject that the tenants are entitled to claim the freehold, and if accepted, which of the proposals are agreed. If the landlord does not accept any of the tenants’ proposals, the counter notice must give a counter proposal. Most often, this will take the form of a counter offer on the purchase price. The counter offer on the price will be high and is sometimes well over the high worst case figure that the tenants’ surveyor included in the valuation. This effectively sets the most that the tenants could possibly pay and forms the upper boundary of the negotiation.

Following service of the counter notice, a six month statutory negotiation period begins. During this time the parties’ attempt to negotiate and agree all of the terms of the transaction. In all but a few low value cases, the parties’ surveyors will conduct the negotiation as the surveyors are qualified to deal with valuation matters. It is worth asking your surveyor for an estimate of costs for the negotiation before serving the notice.

If an agreement is not reached within the six month deadline, your initial notice will be deemed withdrawn. This will end the process, you will be liable for the landlord’s costs up to that point and you will not be able to serve notice again for 12 months (at which point the freehold will be more valuable). This is obviously a terrible outcome, therefore if agreement is looking unlikely and the deadline looming, it is usually advisable to make an application to the First-tier Tribunal to ask them to make a determination on the points in dispute.

The application to the Tribunal stops the clock and the deadline can safely pass without your notice being withdrawn. Also at this point the landlord will become liable for their own costs in preparing for the Tribunal hearing. This means that an application can be useful even if you have no intention of going to a hearing. It takes the pressure off you whilst at the same time putting pressure on the landlord to reach an agreement before they begin incurring their own costs. I find that in many cases where an application is necessary, the parties soon after reach an agreement on the points of dispute.

Once the points in dispute have been agreed or determined by the Tribunal the parties enter into a separate set of deadlines for preparation of the necessary documents and completion of the purchase.