Money-for-nothing clauses will have to go

The government has proposed a total ban on the sale of new-build leasehold houses, and a reduction of ground-rent charges to zero, after it emerged that thousands of homeowners were locked into costly arrangements that have rendered their homes virtually unsellable.

Leasehold agreements are used when someone buys a house within a shared space, usually a block of flats. The owner of the building’s freehold then collects a service charge, which goes towards the upkeep of communal areas, and “ground rent” – traditionally a negligible sum intended to satisfy the contractual nature of the agreement.

However, there is in fact no legal requirement for ground rents to be “reasonable”, a fact that in recent years has led some developers to write especially onerous clauses into leasehold agreements. This has been particularly common in the sale of new-build houses. Given that these generally do not share communal areas, there seems to be no obvious reason for houses to be sold as leaseholds other than to provide further profit for housebuilders.

In 2016 the average ground rent for new-build properties was £371, and £327 for older properties, according to insurers Direct Line. Keep in mind that this is a fee for which nothing is received in return. What is even more concerning is that as many as 100,000 leaseholders have signed agreements that will see their ground rent double every ten years, according to campaign group the Leasehold Knowledge Partnership.

So what might start as a fairly affordable-looking expense on a house worth £200,000, such as £295 per year, could rise to £9,440 per year after 50 years. Leaseholders also generally have to ask permission to make changes to the property, such as putting in new windows, and in some situations must pay hundreds of pounds for this privilege.

The most straightforward solution is for leaseholders to buy the freehold, but this is not always an option. It is common for developers to sell freeholds on to professional ground-rent investors, who want the reliable long-term income provided by these regular payments. Given how valuable this income stream is, it’s no surprise that these investors then put up the price of buying it.
In the example above, based on a statutory valuation method, it would cost £35,000, according to the Department for Communities and Local Government.

As it stands, current leaseholders will not benefit from the government’s plans. However, those who feel that they weren’t properly warned about the implications of leasehold clauses by their solicitor may be able to claim against them for professional negligence, or seek redress via consumer-protection legislation. Taylor Wimpey has even set aside £130m to convert onerous leasehold agreements into standard ones, which may inspire others to do the same.

If you are invested in housebuilders that make money from selling on freeholds, it might be a good idea to take a closer look at their accounts. However, the crackdown may also throw up some opportunities – Ground Rents Income (LSE: GRIO) is the only UK-listed investment trust that invests in long-dated ground rents, Monica Tepes of broker Cantor Fitzgerald tells Citywire. The share price has taken a knock on the news of a leasehold ban, but the move could mean that its assets will be more in demand. Also, the trust this week clarified to the stockmarket that it does not own any “leaseholds with ground rents that double perpetually every ten years”. GRIO trades at a discount of just under 10% to its net asset value.