A Lease: What It Is, What It Does And The Parties To It
The most important thing to know when you are contemplating buying leasehold property is that you won’t own the bricks and mortar despite a) paying a large premium up front and b) regardless of whether you pay cash or take out a mortgage. If you bought the same property as freehold, then you would own the bricks and mortar, which is the fundamental difference between freehold and leasehold.
So how does it all work?
Being a freeholder is the closest anyone can get to owning property outright in English common law. Freehold is characterised as ‘not being derived from, or conditional on, the estate of another’ and known as ‘fee simple in absolute possession’.
Freeholders of blocks of flats can take many forms; they can be individuals, finance companies, mixed use companies (owning both commercial and residential properties in the same development) and ground rent investors. There can also be leasehold resident management companies which are often marketed as ‘share of the freehold’ where the leaseholders have used legislation to collectively buy the freehold from their current freeholder.
A block of flats can also have more than one freeholder if the freeholder who owns the ‘superior’ lease sells what is known as an ‘intermediate’ lease to another party. That party becomes the ‘head lessor’ who can then grant ‘under leases’ to the leaseholders of each flat, making the head lessor their landlord.
This then results in 3 different levels of ownership in the building:
- The freeholder who has the highest level of overall ownership;
- The head lessor (also called the head lessee) who is directly responsible to the leaseholders;
- The leaseholder.
Some freeholders self-manage their blocks but most use the services of a managing agent.
Note: Freeholders are also known as landlords in common law but this is not to be confused by a landlord subletting a property.
Long leasehold tenure is characterised as ‘an estate carved out of freehold’ and known as ‘terms of years absolute’. This means that it is only an ‘interest’ cut from the dominant estate of freehold so what the leaseholder actually owns is a lease. This lease acts as a contract between the parties and only grants leaseholders the right to live in the property (or sublet it) for a pre-determined length of time.
A lease of a new build property usually starts with a term of 99 or 125 years and each time the lease is sold, the unexpired term (how many years are left) reduces. Other leases in older buildings can be very short, with some having so few left that they are difficult to market due to the criteria demanded by lenders. Others are of a duration of 999 years and other leases fall somewhere between the two.
All leases contain covenants (promises) that the parties make to each other. In other words, what the leaseholder has contracted to do and what the freeholder is bound to do. There are two types of covenants: positive, which is a promise to do something, and restrictive which is a promise not to do something.
How many covenants (and what they are) depend on how the lease is drawn and they are either going to be expressly written into the lease or implied and its important to be aware that the latter have just as much force in law as the former.
The freeholder will usually covenant to:
- Quiet enjoyment (this is implied anyway);
- Provide buildings insurance;
- Repair and maintain the common areas which include the structure, roof, the land the building stands on, foundations, load bearing walls, gardens, landings, paths, gates, fences, drives, stairways, and any other outbuildings as well as anything inside the building such as plant rooms, lift motor rooms, and meter cupboards. These are all areas that are owned by the freeholder;
- Provide services such as heating, lighting, cleaning, caretaker, scheme manager or porter services;
- Demand and collect service charges;
- Manage the accounting cycles and present the year-end accounts.
However, freeholders don’t actually pay for any of the above. Instead they recover their outlay through the mechanism of the lease by leaseholders covenanting to pay service charges, buildings insurance and ground rent.
The lease contains the mechanism of controlling service charges such as:
- Who shall certify or approve the accounts;
- The costs that can be recovered;
- The periods of time for which accounts should be prepared;
- Whether service charges are recoverable in advance or arrears of provision of works or services;
- Whether they are to be collected regularly or whether as costs as arise with the most common provision for collection being where prescribed dates for payment (known as ‘interim’ service charges) are typically required either twice or four times a year, usually around the ‘quarter days’ of 25th March, 24th June, 29th September, and 25th December;
- How the service charge is apportioned.
Leaseholders will either pay a ‘fixed’ or ‘variable’ percentage of the total service charge budget. When service charges are ‘variable’ this means that the amount payable may go up or down, according to the costs incurred or to be incurred. If the service charge is ‘fixed’ under the terms of the lease or tenancy agreement it does not change.
The lease is also the starting point as to how the service charge budget is set with most leases usually allowing the building up of funds to give a safety net for both planned and unplanned long-term expenditure. One is known as a reserve fund and the other a sinking fund.
A buildings surveyor can put together a capital expenditure (CAPEX) report which will highlight how much is required to place in these funds each year.
Leases granted after 19th June 2006 for a term of over 7 years have what are called prescribed lease clauses which not only summarise the details of the lease but contain all the information that the Land Registry needs to allow it to faster and more efficiently complete registration. They were introduced under the Land Registration (Amendment) (No 2) Rules 2005.
They must be supplied correctly, in the format set out by the Land Registry and attached to the front of the lease where they can easily be found. More on this can be read here.
Leases written before then will often be written in legalese (an old legal convention) and can be many pages in length, making it very difficult to extract the main points without reading it all the way through. Despite this, all leases will contain the original parties to it, regardless of how many times the lease changes hands.
There have also been other mechanisms introduced in attempts to make buying leasehold tenure easier and they can be read here.
SERVICE CHARGE DEMANDS AFTER PURCHASE
When a flat changes hands, new leaseholders often receive service charge demands long after purchase. This is usually because there is a shortage for the service charge accounting year during the time the seller owned the property. Any monies owed (or credited) are not finalised until the accounts for the block are issued some months later. The basic rule in here is that under the Special Conditions of Sale, the outgoings of the property should be apportioned between the buyer and the seller and both conveyancers’ will work out the apportionment on service charge demands with effect from the completion date. There are two forms apportionment can take: an undertaking, or a retention clause if the lease provides for payments on account (with a balancing payment at the end of the service charge year). The sales contract should a) specify the amount and b) how long it is to be held for.
On the other hand, if no apportionment is made at the time of the completion (or a retention clause agreed), recovery of any arrears relating to the seller’s period of ownership will need to be made directly from the seller.
Over the decades, leaseholders have been granted a large number of rights in attempts by successive Governments to make leasehold tenure more equal to that of freehold. One of the two primary statutes that govern leasehold reform is that of the Leasehold Reform Act 1967 which gave leaseholders of houses the chance to buy their freeholds, and extend their leases, a process known as enfranchisement.
Then came 5 main Acts of Parliament specifically concerned with the management of blocks of flats, which can be found here.
The tenure has however been the subject of campaigns for change for many years with MP Barry Gardiner chaining himself to railings back in December 1998 to emphasise the restraints on leaseholders. This time around it seems that Government may actually be listening. This is due in part to the efforts of a recently established campaign group, the National Leaseholder Campaign and the longer established Leasehold Knowledge Partnership. Particularly highlighted at the moment is the issue of onerous ground rents, with freeholds being sold onto other parties without the knowledge of the leaseholders and impacting on whether lenders will lend or not.