If you are the owner of a flat, you will be aware it is subject to a lease.
The very nature of a lease means that it will always be diminishing and in theory should the remaining term of your lease reach zero, your freeholder will take back possession of your flat. In reality this is very rare, but the fact still remains that due to the nature of owning leasehold property you will at some point need to look at an extension.
The Leasehold Reform Housing and Urban Development Act 1993 (the Act) sets out the practical and valuation basis for doing just this.
The cost of extending a lease – how is it calculated ?
The legislation is in place to provide a formula and a legal process which can go all the way to a disputed hearing if the parties cannot agree a premium. In practice, most leases are extended by agreement of a premium, but this generally will still need some kind of valuation. With residential flat lease extensions, this valuation is normally carried out by surveyors, as Peter Barry Surveyors explain below.
The simplest way of thinking about it is in terms of compensation due to the freeholder given that the legislation compels the freeholder to grant such an extension once the Act is invoked.
The first part of the equation arises from the Act requiring the lessee’s ground rent payments to be reduced to a peppercorn rate or zero after the extension. From a compensation point of view it is probably easiest to think of how much is it worth investing today for the right to receive these ground rents for the remainder of the current lease term.
The total value of this is not as onerous at it first appears, as due to the time value of money, ground rent received next year is worth less than the same amount of money received this year.
Part two relates back to the initial theory that once the current lease expires, the freeholder will regain possession of the flat. Once an extension is granted, this will not transpire for a further 90 years and the speculative asset that the freeholder now holds is worth considerably less. Thankfully for the lessee, the value of the flat is not forecast into the future.
The final element of the equation is only applicable when the lease falls below 80 years and is known as marriage value. Marriage value arises out of the increase in a flat’s value attributed to the granting of an extension and is the difference between the combined total of the leaseholder’s and freeholder’s assets after and prior to this. The calculation can be complicated but is summarised here.
A flat that has recently dropped below 80 years could be worth roughly 95% of its full long lease value the lessee would have realised a significant saving had the lessee extended a few months earlier.
If like many leaseholders you have discovered you have already dropped below this the 80 years, time is still of the essence, as with each year, month and day that passes the cost of extending will only continue to rise.
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