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A Poor Start to the Year for Flat Owners Seeking to Extend Their Leases or to Acquire the Freehold


A few weeks ago flat owners with leases with less than 80 years left to run had their hopes dashed that the premium payable might be reduced; the flat owner failed in their appeal in the case of Mundy v Trustees of the Sloan Stanley Estate. Unfortunately the tenant fell at the first hurdle in trying to show that there was a point of law to be considered; the Upper Tribunal ruled that it was open to the Tribunal at first instance as a question of fact to reject the Parthenia model.

The problem the model seeks to address is that when you calculate the value of the short lease to then base the marriage value element of the premium on you need to discount the open market sales of flats on comparable short leases to reflect the benefit of the Act as it requires that effect to be disregarded. The proponents of the model assert that the market has been distorted by the existence of the Act to a point where it isn’t possible to discount and so instead you need to look to relativity at a time when the Act didn’t colour the mark. In short the pre-Act world is the no-Act world.

When the model was tested it was found wanting below; the tenant’s counsel asserted that this flowed not from a defect in the model but because of the distortion in the market. This was rejected in favour of normal valuation methods; making appropriate adjustments to comparable is preferred even if one of the factors in pushing the market to its current position was reliance on a graph that may have been circular in its effect as it was based on settlement evidence. In short, it had an effect but it hadn’t corrupted the market and the Upper Tribunal wasn’t about to set guidance based on how the market should have operated absent that factor. So it remains the case that the Parthenia model in its current form is ruled out for future use.

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Capitalising the ground rent income stream

Now there has been a decision, albeit at the first instance, that magnified the premium payable to compensate the landlord for the loss of its ground rent income stream; this case concerned the enfranchisement of the freehold to three blocks of flats in Eastbourne containing 52 flats in total sold off on 125 year leases in 2007 with a passing ground rent of £250 per annum in the majority and a 15 yearly review based on RPI.

The tenants proposed that the ground rent income stream be capitalised at a rate of 6% and the landlord 3.09%. The higher the rate the lower the premium payable by the tenants. The landlord’s valuer provided compelling evidence as to the market value of the ground rent income stream. This showed that over the last 10 years or so as ground rent investment increased in popularity with pension funds for example buying avidly as a hedge against inflation so the prices for the entitlement to that income had increased. As a consequence the price payable by flat owners increases correspondingly as the value of the freeholder’s interest for the purpose of enfranchisement is based on the open market value of it. While financial expert’s evidence was provided, previous case law directed that the Tribunal look primarily at the land market and to the money market only as a factor. Comments made in the Sportelli guidance decision for deferment rates supported reliance on market evidence. As that was not challenged effectively the Upper Tribunal adopted that evidence subject to some adjustment for the relative size of the individual block and passing rent.

The effect on the premium payable by the tenants was significant; they hoped to achieve a premium in this regard of £350,000 whereas the landlord achieved £560,000.
Flat owners may find that the value of ground rent income streams falls over time if and when Quantative Easing is unwound and so alternative investments become more attractive again. Also, the potential legislation in the leasehold sector may have an effect depending on its terms.

What about smaller blocks? The tenant’s counsel contended there were two very distinct markets but this was rejected based on the evidence from the landlord’s valuer which showed that where the ground rent income stream was of “somewhat lower proportions then there some minor increase in the capitalisation rate”. So smaller blocks can’t ignore the decision. All that said, it is not a guidance decision at Upper Tribunal level but of course while this case may not be appealed landlords will no doubt be emboldened to seek a determination at that level that does constitute such guidance.

So landlords have had a good start to the year and tenants will be looking forward to see what changes the government might make further to the recent consultation as to potential leasehold reform.

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