You are a flat owner. After a lot of hard work you have managed to persuade your fellow flat owners to purchase the freehold of your building which has now completed. There is no need to do anything about the leases or is there?
Many flat owners who buy the freehold of their building believe that the leases no longer apply to them or that they are automatically “cancelled”. This is not the case. As freeholders, flat owners wear several “hats”. One hat as a shareholder or sometimes even a director of the freehold company. Not only do they have to comply with their legal requirements as director they also have their obligation as the landlord to adhere to the provisions of their lease, ie to maintain the structure of the building and communal areas. They also have obligations as flat owners to pay their maintenance charges and keep their property in good repair.
A diminishing lease term may be one of the reasons why the freehold was purchased. Unless the lease terms are already very long, they should be extended for a long lease term, usually 999 years at a nil rent (sometimes referred to as a peppercorn).
This extension should take place on or shortly after completion of the freehold purchase. The reason being, that over time the lease will diminish to a point where the cost of extending it becomes expensive. For example, where the lease term drops below 80 years or there is a significant interval between completing the freehold purchase and the extension of the lease.
Should a lease be extended a long time after the freehold purchase, the freehold company could be deemed to be conferring a benefit to the flat owners for which they may be faced with a capital gains tax liability.
We see this situation on a regular basis. In some instances, the freehold company may ask the flat owner wanting the lease extension to indemnify them against any tax liability that may be due once the lease has been granted. If this applies to you or the freehold company, you will need to seek tax advice and may be valuation advice to ascertain the extent of the amount of tax payable.
The best way to avoid any tax liability from being incurred is to have a participation agreement at the start of the freehold purchase. Not only does it commit the flat owners to purchase the freehold, it should contain a requirement that the leases are extended to 999 years on completion or shortly afterwards.
This is not legal advice; it is intended to provide information of general interest about current legal issues.