Returning part of the cost in buying a share of freehold

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    Returning part of the cost in buying a share of freehold

    Block of 76 flats is buying a freehold for its building. Currently slightly more than 50% of the leaseholders are participating in purchase. Some flats in this block has short lease (60-70 years left unexpired)

    We want to buy a flat in this block. The flat we are interested in has 67 years unexpired lease.

    According to the vendors they have a quote for 90 lease extenstion which will cost 38000 pounds.

    On the other hand participating in buying a share of Freehold will cost us 60000 (according to the group of leasholders that are trying to do it). When purchase of the freehold is finalized flat will obtain 999 years lease with nil ground rent and share in a mangement company.(essentially share of freehold)

    According to the vendor buying share of freehold is more expensive than extending a lease because we have to pay for the non-participating leasholders, some of them having short lease (60-70 years), but they also said we can recover some of the money back later when non-participating leaseholder will be extending their lease.

    Does anyone know if it is indeed possible that we will be able to return some of the money we will be paying for the share of freehold when non-participating leaseholders will be extending their lease. (I doubt, but expert comment would be greatly appreciated)

    Buying a share of freehold is an attractive option, but if costs 20000 pounds more than lease extension is it really worth it?

    Thanks

    #2
    Sounds reasonable, but sorry I don't know for sure. Maybe the lease extension monies will just go into the sinking fund. (Money saved up for major works like a new roof)

    What if you were just to buy the 67 years lease then decide at a later date if you wanted a longer lease or a share of the freehold? Would your mortgage firm allow this?
    To save them chiming in, JPKeates, Theartfullodger, Boletus, Mindthegap, Macromia, Holy Cow & Ted.E.Bear think the opposite of me on almost every subject.

    Comment


      #3
      I was told if I will not join the list of leasholders that are currently buying freehold I cannot buy share of freehold later.

      Comment


        #4
        purchase of reversion

        From the figures you are bandying around this ought to be a rather superior block.

        the money you pay essentially to improve your lease situation will go to the person or companies whose reversionary interest is being acquired, not toward the sinking fund.

        By becoming a participator in the freehold purchase where some lessees do not elect to take part you are acquiring what may well be an interest in what could be a very good investment as those who dont buy a lease extension now will need one later on and the cost will go up as the lease diminishes in length,


        I suggest you get some immediate advice from a highly competent specialist advisor familiar with values of lease extensions, just to make sure the figures provisionalky agreed with the present freeholder is reasonable, unless that is, others in the block have already done so. I hesitate to recommend a really good enfranchisement surveyor in a forum but send me a message privately if you wish. Some are out of touch, a few are excellent.

        If you dont want to become an investor in the reversion and ground landlord of your neighbours just buy the lease extension. But if you have the spare wedge, it will almost certainly pay over time to join the party and become one of the subscriber leasehold who own the freehold. I would stress that in my humble view the figures sound a little high unless it is the case is of premium quality with flats being worth 300Kplus or thereabouts with long leases


        be lucky!

        Comment


          #5
          Originally posted by evgeny View Post
          According to the vendor buying share of freehold is (1) more expensive than extending a lease because we have to pay for the non-participating leasholders, some of them having short lease (60-70 years), but they also said (2) we can recover some of the money back later when non-participating leaseholder will be extending their lease.

          Does anyone know if it is indeed possible that we will be able to return some of the money we will be paying for the share of freehold when non-participating leaseholders will be extending their lease. (I doubt, but expert comment would be greatly appreciated)
          (1) This is true, it is more expensive, in small part because buying the interest in the freehold is more costly than buying an extension to the lease term and in large part because, as the vendor says, the participating leaseholders are in effect meeting the costs that would otherwise be borne by the non-participating leaseholders had they too wished to participate.

          (2) In future years, those non-participating (in the freehold acquisition) leaseholders who extend their lease terms will,as would be the case now, pay the premiums (costs) of obtaining such extension to the freeholder company. Accordingly, as shareholders of the freeholding company, those leaseholders who participated in the freehold acquisition being unbdertaken now would see the freehold company enriched.

          It is not clear, however, that the freehold company would necessarily always distribute its premium income from granting lease extensions to the shareholders. It might easily decide (by a vote of the shareholders as a body) to retain some or all of this income to meet refurbishment costs etc. - which follows the point jamesknight was making above about funding a reserve.

          Comment


            #6
            thank you for answering.

            Probably a very naive question, since I am not very familiar with the subject. How could buying share of freehold be a good investment ? Once block bought a freehold of the building, this freehold will stay in a company which own freehold, and owners of flats that participated in buying freehold will be holding shares of this company.

            As far as I understood as an owner of a share in this company you cannot really easily sell this share: you need approval of other shareholders.

            The company will be at some point extending lease to non-participated leaseholders, this will generate money for the company. But is it possible to tranfer this money to the shareholders of the company? Maybe you mean this route?

            The clarification will greatly help, since I am quite new to all the process.
            Thanks

            Comment


              #7
              The value of owning the freehold will be reflected in the value of the flat and hence the flat will sell for more with a share of the freehold than without. The increase in value will be slight to negligible where a flat enjoys a long lease, but with short leases, the increase in value can be considerable.

              A lease is a wasting asset - in that with the passage of time it is eventually worth nothing as it has to be handed back to the freeholder at the expiry of the lease and no compensation is payable to the leaseholder. Where leases are long, taken to be in excess of 80 years, then their wasting nature is largely ignored for valuation purposes. With a 999 year lease, the expiry date is so remote as to be substantially meaningless.

              Accordingly, if a lease is long, there is not much advantage from a financial perspective of owning a share of the freehold. (You are correct that such freehold share normally cannot be sold separately (once it has been acquired by a company owned by leaseholders), both because the freehold company will almost certainly prevent this to keep the freehold share ownership in the hands of the leaseholders and because there is not typically enough financial benefit available to a third party buyer to make it worth buying separately.)

              The main benefit of the holders of long leases acquiring the freehold is to place control over the building in their hands and remove it from some landlord/freeholder whose interests do not coincide with theirs. It gives them the ability to regulate the service charge and the development of the building.

              Where a lease is short, so less than 80 years to expiry, then the uplift in value of a leasehold flat can be considerable from acquiring the freehold interest. This is reflected in the premium payable to the current landlord/freeholder to acquire the freehold. The advantage is secured post freehold acquisition by the freeholders/leaseholders arranging to extend their leases to 999 year terms without further payment. Similar considerations about taking control of the building's management and development apply as in the case of long leases.

              Comment


                #8
                Originally posted by Gazou View Post
                Where a lease is short, so less than 80 years to expiry, then the uplift in value of a leasehold flat can be considerable from acquiring the freehold interest.
                Similarly, remember that leaseholders currently not participating in joint purchase of f/r and not currently intending to exercise lease extension rights will eventually have to extend (only to discover that the premium at that later date has become higher- perhaps very much higher- than as at now).
                So L will reap benefits then.
                JEFFREY SHAW, solicitor [and Topic Expert], Nether Edge Law*
                1. Public advice is believed accurate, but I accept no legal responsibility except to direct-paying private clients.
                2. Telephone advice: see http://www.landlordzone.co.uk/forums/showthread.php?t=34638.
                3. For paid advice about conveyancing/leaseholds/L&T, contact me* and become a private client.
                4. *- Contact info: click on my name (blue-highlight link).

                Comment


                  #9
                  Gazou, thank you for the clarification.

                  Summarizing, if we decide to buy this flat (current agrreed price 620000) and participate in buying a share of freehold, since extension of lease is 38000 and share of freehold 60000, we will be essentially paying towards the freehold company 22000.

                  Since price of the flat with 999 lease is very similar to the price of the flat with 999 lease and with share of freehold (at least difference is much less than 22000) when/if we will sell the flat we are likely to do it for 658000 (=620000+38000). (if property prices stay the same)

                  We will be leaving 22000 pounds in a freehold company. Possiblity of recovering thess 22000 from the company is unclear: compnay might at some point raise money by extending a lease, but it is questionable if it will want to distribute these money among shareholders.

                  Anyway even if it will distribute the money that will be taxed as our income, so most likely with 40% or about it tax rate.

                  So, by participating in buying a share of freehold we will be essentially loosing 22000 pounds (or in the best case 40% of it: taxation on paying money back from freehold company), but we will get influence/resposibility in managing a block. That is a plus and a minus at the same time.

                  Correct? Sorry for being too pedantic and thanks for help to everyone who replied

                  Comment


                    #10
                    Also if we will happen to sell the flat before other non-participating leasholders will be extending a lease we will definitely loose these 22000.

                    Since it might be a bit difficult to convince potential buyer of benefits to pay extra now for the questionable income in the future. (:for potential benefits of getting money from extending lease by Freehold company)

                    The issue is a little bit complex for the standard person buying a flat to estimate value of this benefit.

                    Comment


                      #11
                      I think part of the answer is here

                      http://www.landlordzone.co.uk/forums...ciation&page=3

                      but it looks like it is unfinished thread.

                      Comment


                        #12
                        1. Your question, evgeny, is very apposite in the circumstance of being asked to pay an extra £22,000 with the prospect of no return with the timeframe of the next few years.

                        2. Given all (or nearly all) the leases in the building are between 60 and 70 years or so to expiry, if the cost of a 90 year lease extension is some £38,000 (let us say £40,000 for arithmetic ease later) and the cost of participating in the freehold acquisition is some £60,000, then it would seem some two-thirds of leaseholders are participants in the freehold acquisition and one-third are content to remain as leaseholders only. Accordingly, the participants are buying an "excess" share of the freehold interest, disproportionate to their leasehold interest, representing an extra half share (so each has a one and a half share in total) over what would be the share had all leaseholders participated. This extra half share is priced at £22,000, but let us say £20,000 (being £60,000 - £40,000).

                        3. That extra half share does not, of course, disappear and so it would be (and likely would be required to be) included in any future sale of the flat (leasehold and freehold interest). Points at issue (upon which the views of knowledgeable local estate agents and/or surveyors might usefully be sought) is to what extent the "excess" freehold interest will (i) be fully reflected in the price (which theoretically it should be), and (ii) would prove a disincentive to potential buyers on the occasion of any future sale of the property.

                        4. The "excess" freehold share of £20,000 can be considered as though it were a separate investment, although, of course, it (almost certainly) cannot be separately disposed of.

                        5. It will perhaps have no income yield as the freehold company will not pay a dividend. (The freehold company's only clear source of income (i.e. income that is collected other than for the purposes of meeting and is therefore matched against particular expenses) is ground rent. This, on the third or so of the flats that remain only leasehold, would probably (I would guess, not having information about actual ground rent amounts) produce an income yield of only around 0.5 per cent. if it were distributed by way of dividend.) Accordingly, there is a "cost" in terms of opportunity for income from investing the £20,000 of some £800 per annum before tax and assuming a marginal cost of funds rate of 4 per cent.. (This cost is a near match to the annualised uplift in premiums, see paragraph 8. below.)

                        6. The source of any return, as you point out, is therefore going to be only from the premiums collected from those of the leasehold flats that seek extensions to the term of the leases. To assess some value from this requires assumptions about (a) numbers of leaseholders seeking extensions, (b) timing, and (c) price.

                        7. Concerning (a) and (b) it is not unreasonable to suppose that rational leaseholders will seek extensions before the lease terms are less than 60 years since leases with a shorter term to expiry than that are more difficult to value, with greater subjectivity and hence variation in pricing. Accordingly, the bulk of the premiums for granting extensions will be received with the next 7 years or so. This is still rather imprecise for investment appraisal purposes. Timing may also be driven by flats changing ownership and so information and assumptions about flat ownership turnover should be made too.

                        8. Concerning (c), we know the current price is some £40,000. This will increase appreciably as the lease term remaining reduces, as jeffrey points out in his post above. Very roughly, the price may be around one third as much again (so approaching some £54,000) if the lease term remaining at the time extension is sought is only 60 years rather than around 67 years. This would represent an annualised return of some 4.3 per cent. (before tax). (This is a near match to the opportunity cost identified at paragraph 5. above.)

                        9. Further concerning (c), the premium pricing will also be affected by changes in the market price of property generally. There is the possibility of fresh falls in property prices (see in this connection http://ftalphaville.ft.com/blog/2009...ousing-market/). Over a seven year time horizon, it is perhaps reasonable to suppose some property price inflation and if this were in excess of "normal" inflation - or more particularly the marginal cost of funds rate - then the investment would be enjoying an excess return.

                        10. As indicated, the worth of the investment (the "excess" freehold interest, the extra half share) can only be assessed after making a number of assumptions, the effects of which will have a material bearing. Even where your time horizon was limited to only a very few years of flat ownership, so, as you point out, before many or even any leasehold flats have sought extensions to the lease term, instinctively it would seem reasonable to suppose the freehold share would represent a worthwhile investment because of the point in paragraph 8. above - that the shorter the lease term remaining when extension is sought, the higher the premium and this is a near match to the investment carrying cost. Beware of a general fall in property prices though since this deal is, as is obvious, a pure property investment play. The fact that it could be reasonably assumed that leaseholders would seek extensions ought to see the freehold share value reflect this potential, and probable, income on any early sale of such freehold share. The point at paragraph 3. above about seeking a local estate agent's/surveyor's advice about the "excess" freehold share being reflected and its impact upon buyer enthusiasm is germane.

                        11. As noted in posts previously, however, there could be no certainty that the freehold company would pass on the benefits of premium income received by way of dividend to shareholders. It may well do so, and it might be instructive to ask those engaged in the freehold acquisition about what is intended in this regard.

                        12. Even if no dividend were paid, rather the income was accumulated by the freehold company in some reserve fund to meet the costs of future refurbishments etc., the value of such reserve ought to be reflected in the value of the share of the freehold.

                        Comment


                          #13
                          Gazou, thank you for very detailed answer.

                          But I think "MEMORANDUM AND ARTICLES OF ASSOCIATION" of the company holding the Freehold is normally explicitely forbidden distribution of the capital among its members/shareholders.

                          If the company is limited by garantee (recomended for Freehold company). It is by definition non-profit, no share capitas, no shares, hence no dividend. As it is explictely not for profit no capital distribution among its members is allowed.

                          If the company is limited by shares (not recommended for Freehold compnay, but some do), all "MEMORANDUM AND ARTICLES OF ASSOCIATION" of such companies I saw explicitelly forbid distribution of its copital among members.

                          Is it required/regulated by law that every Freehold company is not allowed to redistribute its capital to members/shareholders ? And what is a solution in this case?

                          Thanks

                          Comment


                            #14
                            The 'do not distribute' rule:
                            a. is not specific to what you describe as a "Freehold company"; but
                            b. arises in the case of every company if the Articles (or pre-2006 Act Memorandum) prohibit distributions.
                            JEFFREY SHAW, solicitor [and Topic Expert], Nether Edge Law*
                            1. Public advice is believed accurate, but I accept no legal responsibility except to direct-paying private clients.
                            2. Telephone advice: see http://www.landlordzone.co.uk/forums/showthread.php?t=34638.
                            3. For paid advice about conveyancing/leaseholds/L&T, contact me* and become a private client.
                            4. *- Contact info: click on my name (blue-highlight link).

                            Comment


                              #15
                              Jeffery, thanks for clarification, since you are an expert in this area: what is the solution ?

                              Comment

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