Commonhold will lead to an increase in home “repossessions”

Switching from leasehold to commonhold increases the risk of home “repossessions” if homeowners fall into service charge arrears. The commonhold association (the equivalent of the landlord) could force the sale of the home – and the threshold to be applied by the Courts in awarding an order for sale would be lower than is the case with leasehold forfeiture.

What happens with a leasehold property?

The inequity that a leasehold interest could create is that if a tenant is in breach (for example, non-payment of service charge), the lease can be terminated by forfeiture. In a residential context, this would be by court order only. If the court awarded forfeiture, the tenant (and their mortgagee) would lose the entire value of their interest and the landlord would have a windfall gain. The lease would no longer exist and the landlord is then free to grant a new long lease at a premium. That is the theory. It is not what happens in practice.

It is the very fact that there is a potential windfall gain that is taken into account by the Courts who will then give the tenant significant leeway to pay off the arrears and avoid forfeiture.

Then take into account mortgaged homes. The lender would inevitably step-in to avoid forfeiture in the above circumstances.

The forfeiture process is also long and costly – another reason why it is the last resort and a rare occurrence.

These are the reasons why residential leasehold forfeiture is not rife. There is an equitable balance applied by the Courts to avoid the unfair result of complete loss of value to the tenant for the sake of recovering a potentially relatively small amount of service charge arrears.

Why do we predict an increase in home “repossessions” should the Commonhold reforms be implemented?

First, let us clarify what we mean by “repossession”. We are looking at the forced sale of a commonhold unit against the will of the homeowner in a situation where the homeowner has service charge arrears.

For the purposes of this argument, let’s assume: the service charge costs are lawfully due; the body responsible for maintaining the building only has one source of funding, namely, each of the homeowners; and the homeowner in question simply cannot afford to pay off the service charge arrears.

In an equivalent leasehold context the “repossession” can only happen by a Court granting the relevant order – to terminating the lease. Under the Commonhold system, a forced sale could only happen if the Court made an order for sale. Both systems then require a Court order.

In the leasehold context, the Court has to balance avoiding a windfall gain for the landlord (the flipside of that coin being the total loss of all value of the home to the owner and their mortgagee), against the service charge arrears. If the homeowner can agree to a sensible repayment plan for the arrears or agree to an orderly sale with the arrears being paid off on completion, the Courts will inevitably allow that and not award forfeiture.

A baked in equitable position…

The key difference under the Commonhold system is that a forced sale (in the equivalent scenario) requires any surplus net sale proceeds (after deduction of costs and the arrears) is required to be paid back to the “repossessed” homeowner. That bakes-in an equitable position. Nothing to complain about and that is objectively entirely fair and an improvement against the windfall gain / total loss risk that the leasehold system could (in theory) produce.

However, it is the fact that Commonhold bakes-in this equitable position that is precisely why a homeowners in arrears will face an increased risk that their home will be sold against their will. A Court will simply have to establish the arrears are lawfully due and the homeowner has been given enough time to pay them. There’s nothing else to consider – if that is established then there is no basis on which a Court should not give the order for sale.

The landlord, the commonhold association and mortgagees…

Let’s also consider the position of mortgage lenders and the commonhold association (the equivalent of a landlord / building owner) when dealing with a homeowner/borrower that is in arrears they cannot afford to pay.

The position of a landlord under a lease, the commonhold association in a commonhold structure and a lender under a mortgage are all very similar. Each of them has the right to effectively repossess or force the sale of a homeowner’s property if the homeowner does not pay what is lawfully due.

A commonhold association, incurring the costs of maintaining the building and common parts, has one source of funding: the service charge contributions from the homeowners. If any homeowner falls into arrears it certainly cannot just write that debt off – to do so would put it into insolvency. Mortgage lenders to unit owners, on the other hand, do have some capacity to write off debts (and indeed provision for exactly that outcome across their loan book). So, in a leasehold system, where there are service charge arrears and a threat of forfeiture, the mortgagee steps-in and can then take on the management of those debts (instead of the landlord). The mortgage lender could agree a payment plan and/or write off the debt ultimately and only resort to a forced sale if that does not work out. Commonhold associations can and should move swiftly to an application order for sale (they have a duty to recover arrears), Courts have a reduce roll in stalling or preventing an order for sale so that leads to a forced sale by the Commonhold association.

As a matter of public policy then, who has the greater capacity to take on the management of individual/consumer debts: commonhold associations or mortgage lenders? Clearly it is the latter. It is inherently so in the business model. So in a Commonhold world, repossessions (aka orders for sale) must surely become more prevalent than forfeiture, all other things being equal?

And, finally, a forced sale (by a commonhold associate or lender) will almost inevitably result in a discounted sale price resulting in reduced net sale proceeds coming back to the “repossessed” homeowner.

To round off….

In the 640 page Law Commission report on Commonhold, the 94 page analysis of the evidence to the Law Commission and in the 100 page White Paper on Commonhold, we could not find any reference to evidence which quantifies the number of forfeiture claims in relation to residential leaseholds. The 2023 English Housing Survey identified that there were nearly 4 million flats owned in the private sector (owner occupied plus private rented sector). How many of these have been the subject of forfeiture? we don’t know but we would venture – very few indeed. Should Government be quantifying this as part of the evidence to back up the perceived need to ban residential leaseholds and to then measure the impact of Commonhold relative to the current system?