Is this onerous ground rent?

[ecfc29]

Hi all

I am in the process of purchasing a leasehold flat.

It has an unexpired lease term of 115 years but the ground rent is £250 each year but doubling every 25 years (the next rent review is 2036 when it will double to £500).

Is this onerous and how do I calculate the ground rent % based on doubling ground rents as I'm aware anything over 0.10% is onerous.

I have had a quick look at the premium to buy out the lease - I estimate around 10k for the capitalisation of rent based on deterrent rate of 5%.

Any help/comments would be greatly appreciated.

[Section20z]

Outside London, £250 GR can restrict mortgage choice (£1000 in London) but you can always expunge the GR in 2 years with a formal extension.
I'd use it to negotiate hard on the price.....

[sgclacy]

Onerous is when the ground rent terms are not properly considered at the time of purchase

A ground rent of £3000 a year linked to the RPI is not onerous if the price paid for the property is some £100,000 less than would be the case if only a peppercorn is payable. It is when the terms are not clear to the buyer and the sum it produces is meaningful does the rent become onerous. So bizarrely the larger the rent the less likely it is to be onerous because buyers will reflect on it before purchase - the argument that it was all in legal speak and didn't understand that the rent will increase over time can’t be used as an excuse when the rent is unusually high

The capitalized value of such a rent at 5.75% is some £7,750, and you need to consider if that financial burden is reflected in the price you are paying

[ecfc29]

Outside London, £250 GR can restrict mortgage choice (£1000 in London) but you can always expunge the GR in 2 years with a formal extension.
I'd use it to negotiate hard on the price.....

Very true but the problem is most vendors don't have a clue about this and just think you're trying your luck with a price reduction. Its always a battle. I was also told the loft was demised, guess what its not.

Its an investment anyway so I have no real emotion aside from the numbers.

Its London so should be fine based on what you've said, I've asked my broker to check but 250/340,000(purchase price) is 0.07% so below the arbitrary 0.10% onerous term (but in theory this could be higher than 0.1% in future if (say) the property value didn't increase commensurate with the doubling GR.

If the lender refused to mortgage the property or was being difficult, it would probably help with the price negotiations!!

[ecfc29]

Thanks clacy - I had used 5% hence my 10k valn. How realistic is a capitalisation rate of 5.75% because obv this impacts the value of the lease significantly.

If/when these rates are prescribed it will be so much easier but this doesn't help me with my decision now and at what price.

I guess my options are:

1. Get vendor to approach freeholder and ask for informal lease extension to 125yrs reducing GR to peppercorn (its a smallish freeholder so maybe this is easier approach).

2. Get vendor to start formal extension process now so I dont have to wait 2 years and pass to me albeit this doesn't help with capitalised value of GR unless a value can beset during conveyancing process

3. Take it as is but seek price reduction of x to account for additional financial burden in 2 years or whenever. The cost to extend in future years will increase though.

I think my preference is option 1 as surely that is quickest resolution.

[Section20z]

An informal extension is always the best starting point, especially with a small approachable freeholder and you clearly understand what terms matter.
Good luck.

[sgclacy]

With interest rates so very low and the rent being quite large a capitalisation rate of between 5.5% to 6% is the rate likely to be used - I have used 5.75%

as Section20Z recommends as you are nowhere near 80 yrs it is worth trying to see what the terms are for an informal ext and as you know what the correct answer is you are in a position to consider the terms properly

[ecfc29]

sgclacy,

Yes that’s what I’ll ask vendor to do, however, I don’t think she’ll see it as a problem.

Ironically a friend is in the process of buying an a new build flat and has just brought round his lease.

Its RPI linked every 21 years but can be no more than 100% increase of the rent in the previous period - so basically worst case it doubles every 21 years. Developer is St. George and lease is dated 2014 for 999 years.

How would you calculate the value of this lease as it’s 999 years! And worst case will double every 21 years. Can you still apply for stat extension on a 999 yr lease?

[sgclacy]

For it not to keep pace with inflation, the rate of inflation would need to be greater than 3.358% may in the short term, but the capital markets don't price the inflation risk at that level

I would guess the capitalization rate to be 3.5%

To value that income as it is so very long is simply :-

Rent / 0.035 = Premium on a statutory lease ext - the value of the reversion, whatever the flat was worth, will discount to a fraction of a fraction of a penny - even if the flat was worth the entire value of all the property in London !

[ecfc29]

Thanks for your reply. Can you help me understand a few things?

The current annual rent premium is £275 so that would value the lease up at c8k then, if you went for stat extension simply to eliminate GR?

You mean if rate of inflation is greater than 3.358% then it would cap out at double the previous rent? If less then 3.358% then increase will be lower in line with RPI?

Incidentally what is the assumed inflation rate for a doubling ground rent every 25yrs? It’s less than 4% presumably

Thanks again for your help

[ecfc29]

Hello again.

So the freeholder was approached regarding the doubling GR clause and they asked for a premium of £7,500 to vary it (similar premium to that quoted by Sgclacy) However, they were proposing to leave a flat GR of £250 PA in the lease. Surprise surprise.

As its dragged on and on and on, I have now proposed that the seller serves a s42 on the freeholder and then assigns this to me via deed of assignment on completion, so I am not locked out for 2 years (I guess if I didn't do this it wouldn't be a disaster, as its not a short lease - 115 years unexpired).

In terms of s42 notice and subsequent 90 yr lease extension - are there any additional costs I should be factoring in, in addition to the capitalised value of the GR. This should be between 7500 - 8000 - is there a risk this could be more if a lower cap rate is applied (I guess that's where the Tribual comes in!)

All help greatly appreciated.

[sgclacy]

The premium would be £7,750 plus 0.37% of the value of the flat ( the reversionary value - i.e. the value of the flat discounted back over 115 years at 5% - in excel put =round(1.05^115,5) and that number (273.38) you divide the value of the flat by that number

There will be your own legal costs and the freeholders legal and valuation fees - a total of around £4,000 ! - as you can see the valuation is hardly complex and the deed of surrender and re-grant where the re-grant is under the 1992 Act is again very simple indeed

Nobody will be going to the Tribunal because of the costs, but threatening it (a bit like New Zealand rugby teams' Haka ) is all part of the ritual dance played out at your expense!

[Section20z]

Personally I would take the deal at the fixed £250 ground rent but if you are purely counting beans then you might think it's worth spending the extra £5000+ to expunge the ground rent.
In these times of rising inflation and interest rates I don't think I would.

[sgclacy]

If inflation was to run at say 7% this year 5% next year and 4% the following year then in real terms the rent would have fallen by around 14.5% assuming incomes rise by broadly the same amounts

it was against a background of very high inflation in the 1970’s that doubling of ground rents came about. Prior to that ground rents were mainly fixed but certainly not token sums as campaigners incorrectly state . A ground tent of £25 from 1960’s was the equivalent of a weekly wage for a young person starting work. A rent linked to the RPI is a fair term probably fairer still if linked to average earnings to ensure it never becomes onerous to incomes - but unlike inflation there is not a defined index widely used - the best there is is table EARN04 published by the ONS

[ecfc29]

Thanks for reply.

So I have just seen the DOV and they are proposing to replace the doubling ground rent clause with an RPI linked inflation clause every 25 years. And they have asked for 7500 premium.

This is absolutely scandalous!!! I take the last members point that accepting a flat 250 might be best option, but that is not even option now.

I really want to use the s42 now on this freeholder.

What are my risks? How likely is it that the premium for loss of ground rent will be more than 7500-8000. Alternatively I could just wait until leasehold reform is finalised (by that I mean a reduction in the legals).