The Law Commission Proposals on Commonhold
Commonhold was a new form of housing ownership introduced in 2004 by the Commonhold and Leasehold Reform Act 2002. It was intended to challenge leasehold but has failed spectacularly to take off. In the meantime, the leasehold system itself has come under further criticism and scrutiny by the Government, leading to the issue of three Law Commission reports on the future of residential leasehold last month. Our summary of the overall approach can be found here and links to more detailed notes on Enfranchisement here and Right to Manage here.
In respect of commonhold, the Law Commission has been tasked to “re-invigorate commonhold as a workable alternative to leasehold, for both existing and new homes”. There are two principal barriers to the more widespread adoption of commonhold. The most fundamental obstacle is that commonhold in its current form does not work. It has a high barrier for conversion, is insufficiently flexible to allow the development of new properties and causes difficulties for those managing commonhold properties. The Law Commission’s report sets out 121 proposals which it claims will resolve the structural issues with the regime.
The other obstacle is that developers and other investors in the residential property sector have no incentive to adopt a new and untried form of tenure whilst leasehold continues to work for them. The Law Commission’s answer to this is that the Government must either ban new leasehold developments or offer sufficient incentives to developers to use the commonhold structure. Their firm view is that if the Government does not actively promote commonhold, leasehold will continue as the prevailing form of home ownership in this country.
Conversion to commonhold
Unanimous consensus is currently required from the building’s leaseholders, freeholder (and other landlords) and any lenders before a conversion to commonhold can proceed. The Law Commission considers this to be an unacceptable obstacle and so has proposed the following:
- Leaseholders may acquire the freehold compulsorily through the new “collective freehold acquisition” process, thus sidestepping the requirement for the freeholder’s consent. This procedure is set out in the Law Commissions proposals regarding enfranchisement. The Law Commission has proposed a single “acquire and convert procedure” where leaseholders wish to convert to commonhold.
- Homeowners will only require the support of 50% of leaseholders in a building to convert to commonhold. The Law Commission has set out two options for what could happen to non-consenting homeowners’ leasehold interests following conversion:
- retained but phased out over time. This option would inevitably lead to a complicated management structure with leasehold and commonhold interests existing in the same building.
- automatically converted to commonhold. This option is preferred by the Law Commission due to its simplicity, but there is a serious hurdle in the form of the financing required to convert to a commonhold interest. T he Law Commission has proposed that the Government could provide equity loans which would be registered as a charge against commonhold units ranking after any existing mortgage, repayable on the sale of the unit.
- Lenders’ consent would not be required on the basis that commonhold offers them an improved form of security.
The Law Commission has put forward various proposals to address the serious impediments caused to new developments by the inflexibility of the existing commonhold regime as follows:
- Phases: Developers will also be entitled to carry out the development of a commonhold in phases so they can retain control and flexibility. This contrasts with the current arrangement where the whole development must be registered as one commonhold at the outset. This means that following the sale of the first unit in a phase, the commonhold association will only become the owner of the common parts within that phase.
- Development rights: a fundamental problem with the current commonhold regime is that on the sale of the first unit within a registered commonhold scheme, the commonhold association becomes the owner of all the common parts and so the developer loses most of its control. Going forward, the developer is limited to certain reserved development rights which are set out in an exhaustive list. The Law Commission proposes that developers should be free to reserve the rights best suited to the size and needs of their particular development in the Commonhold Community Statement. However, developers will only be permitted to exercise those rights for a purpose connected with the completion of the development or the marketing of units.
- Sections: a commonhold could be divided into “sections” to reflect that there are different types of commercial and residential interests in a commonhold. Sections may be created throughout the lifecycle of the commonhold provided certain qualifying criteria are met.
Management of the commonhold
The commonhold is managed by the commonhold sssociation pursuant to the rules set out in the commonhold community statement. The Law Commission has recommended a range of proposals to simplify the running of the commonhold, protect minority interests and reduce the risk of the commonhold becoming insolvency.
- Commonhold community statement (CCS):
- The CCS format will be simplified so that it only contains “local rules”. This will allow unit owners to easily understand the rules which specifically affect their commonhold.
- the restrictions on local rules in CCS against restraining unit holders’ ability to create, transfer or grant interests in the unit will be clarified so that local rules may:
- may ban short term lets;
- prevent inclusion of event fees (apart from in specialist retirement housing)
- increase the threshold for amending the CCS to 75% of those voting.
- Shared ownership leases and lease-based home purchase plans regulated by the FCA will be permitted.
- Contributions to shared costs
- Unit owners will be entitled to approve the annual budget.
- Different pools of costs should be introduced to address the inflexibility of the current regime which requires each unit owner’s share of costs of the commonhold to be paid towards all of the commonhold expenditure.
- Commonhold associations should be required to establish reserve funds to protect against the risk of insolvency. Currently, reserve funds are permitted but not mandatory. In addition, reserve funds should be subject to a statutory trust, as with leasehold reserve funds.
- In order to deal with emergency finance requirements, commonhold associations should be entitled (provided it has the requisite support) to:
- Sell any of the common parts;
- Take a fixed charge over the whole or part of the common parts;
- Take a floating charge over the future income stream of the commonhold.
- Dispute resolution
- Commonhold has a bespoke procedure for resolving disputes which must be followed before legal action can be taken. Currently, the commonhold association may actually prevent one unit owner from taking action against another and the Law Commission has recommended a change so that the commonhold association may only provide an opinion to allow the unit owner to assess whether it would be prudent to proceed.
- Unit owners who have breached the CCS should indemnify those who have been forced to incur costs taking action against them.
- The role of alternative dispute resolution should be enforced rather than simply recommended.
- The jurisdiction for resolving unit owner disputes should be the First-Tier Tribunal (Property Chambers) (the Tribunal) unless and until a combined Housing Court is established.
- Minority interests
- One consequence of collective decision-making is the risk that the majority of the unit owners may make a decision that negatively affects the interests of the minority who have not agreed to the decision.
- The Law Commission proposes a new regime of minority protection so that certain commonhold decisions may be challenged in the Tribunal including:
- Varying the form of the CCS;
- Creating a new section or sections;
- Combining two or more sections;
- Approving a budget in excess of a cost threshold in the CCS.
- The commonhold association has limited powers under current law against unit owners who fail to pay their share of the contribution to shared costs.
- The Law Commission proposes a new power for the commonhold association to apply to Court for the sale of a unit where the unit holder is in arrears of more than £1,000 or where the arrears are more than one year old.
- Insolvency and termination of the commonhold
- Involuntary insolvency/termination: where a commonhold is wound up, this leaves unit owners with flying freeholds and no way to manage the common parts. The Law Commission has proposed that in such circumstances a Court would appoint a succession association to take on the role and function of an insolvent commonhold.
- Voluntary termination: if 80% agree, the unit owners can vote to terminate a commonhold so that it can be sold and the proceeds of sale divided. The Law Commission has proposed that the Court should be given the discretion to decide whether or not the termination takes place to protect the minority. In addition, a provision should be introduced to terminate part of a commonhold.
The Law Commission has produced clear and extremely detailed directions for the Government to implement if commonhold is to be given a second chance. However, there is an enormous amount of work required to wrestle commonhold into a more user-friendly format. Time will tell whether it is enough of a vote winner to justify the parliamentary time required.
Please do not hesitate to contact Lauren Fraser or your usual Charles Russell Speechlys LLP contact if you have any queries. This insight is not a substitute for legal advice on the specific circumstances of the case.