Doubling ground rent clauses

17 January 2019

In this issue, we focus on the subject of the Escalating Ground Rents which during the last 12 months or so has been the topic of discussion with a number of our clients and we have no doubt for the conveyancing community as a whole.

It is clear that professional indemnity insurers will start to ask more and more questions of Licensed Conveyancers around a firm’s involvement and exposure to this problem. All firms regulated by the Council for Licensed Conveyancers (CLC) should in our view start to think now about their own exposure in preparation for these questions for the Professional Indemnity Insurance renewal in July 2019.

We would like to thank Joe Eizenberg of specialist professional indemnity solicitors, Beale & Co who has written this bulletin for us.

Dubbed ‘the next PPI’ doubling ground rent clauses in residential long leases have attracted a large amount of media attention and conveyancers will no doubt have concerns about the potential ramifications for the profession.

What are they?

Ground rent payable annually on a long lease would historically be a nominal sum and thus long term leases were seen by many as equivalent to purchasing freehold property.

Residential property developers realised that they were able to obtain an investment return from charging a small amount of ground rent (initially usually for a few hundred pounds) to leaseholders on new build property. Some ground rent clauses contain provisions doubling the ground rent every 5-10 years throughout the term of the lease. Developers sell the freeholds before the ground rents increase significantly for a further premium, often to offshore shell companies or pension funds. Some leases beginning with a ground rent of £300 p/a will eventually require a leaseholder pay a staggering £75,000 ground rent p/a in the final 10 years of a lease. Many mortgage lenders will refuse to lend where there are onerous rent review clauses. Some leaseholders have started to bring negligence claims against their conveyancers.

Ground rent review provisions are subtle and can easily be overlooked when managing a busy caseload. In many cases, the rent review provision in the lease is separate to the actual ground rent sum and either concealed as a definition or included as a schedule towards the end of a lease. In one London development the clause was hidden in a lengthy section referring predominantly to the Retail Prices Index (“RPI”). That lease provided that the review would be RPI or double the existing ground rent, whichever was higher. It is hard to imagine a circumstance where RPI would be higher than double the existing rent and this wording seems to have been used to mask the true meaning and effect of the clause until it was too late.

What is the result?

Although conveyancers often set out the ground rent due and state that it will be reviewed, they sometimes fail to specifically tell their client in writing the severe long term impact of the rent review clause.

Issues often only arise years down the line when the client seeks to sell the property and discovers that doubling ground rent review clauses have caused some lenders to refuse to lend to prospective purchasers. This leaves the owner with an ‘un-mortgageable’ leasehold property which is deeply unattractive (or unattainable) to many potential purchasers.

As a result, original advice given by conveyancers is subject to increased scrutiny. When bringing a claim the client will allege that although they were aware of the requirement to pay at least some ground rent, they were unaware that it was subject to an onerous rent review clause and would not have purchased the property had they known the true impact of the rent review clause.

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What is the exposure?

It is arguable whether assessing the impact of ground rent on a property’s value or “mortgageability” is within the scope of a conveyancer’s duty of care. Each case will turn on its own facts. The UK Finance Mortgage Lenders' Handbook stipulates that it requires conveyancers to report any increase in the ground rent that may materially affect the value of a property. The consensus appears to be that if the clause is ‘onerous’ then this should be flagged to both a lender and prospective purchaser.

The 2017 Supreme Court decision of BPE v Hughes Holland (Gabriel) is, however, helpful for conveyancers and established that a conveyancer’s duty is limited to providing sufficient information to enable the client to decide whether to proceed with a transaction – the conveyancer is not obliged to advise on the commercial viability of a transaction. The damages that a court will award is on a diminution in value basis.

The current state of play

The government has proposed fixing ground rent to £10 p/a on all new build properties and new build developments will possibly no longer include doubling clauses given their adverse publicity. This will not have an impact on purchasers of older leases. Conveyancers can help to reduce potential future exposure by ensuring that reports on title contain information on all major factors affecting a property’s title or value. Conveyancers may wish to update their precedents to ensure that a section on rent review clauses for all leasehold property is included (irrespective of the length of lease) and that clear warnings are given where the ground rent clause will increase exponentially.

In terms of past transactions, we are already starting to see developers offer Deeds of Variation (in return for payment of a premium – usually in the low tens of thousands of pounds) to leaseholders to limit rent review increases to RPI. Where claims do arise claimants should always be encouraged to negotiate with the freeholder in the first instance and see if a Deed of Variation can be agreed.

This is an area where we are likely to see further developments, especially as leaseholders explore whether the rent review provisions themselves can constitute ‘unfair terms’ under the Unfair Terms of Consumer Contract Regulations 1999 or (if the property sold after 1 October 2015) the Consumer Rights Act 2015.

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For further information please contact Joel Harding, Financial Lines Group on +44 (0)20 7528 4307.