Commonhold: How it works and its advantages and disadvantages

Part I of the Commonhold & Leasehold Reform Act 2002 (the Act) was finally enacted in September 2004 introducing commonhold as a new form of freehold ownership.

What is commonhold?

Commonhold is an alternative to, rather than a replacement for, the existing leasehold regime. It is intended primarily to benefit the occupiers of blocks of flats, and other interdependent buildings with shared services and common parts. It is not a compulsory regime and can be used for commercial, residential, and mixed-use premises.

Commonhold addresses two of the problems currently encountered by tenants of residential leasehold buildings, namely the enforcement of covenants between tenants and the diminishing value of leasehold property as an asset. Commonhold may, in time, prove equally attractive to commercial or mixed-use developments where shared facilities exist.

How will commonhold operate?

The operation of a commonhold is best illustrated using the example of a commonhold residential development:

• Each flat within the commonhold development will be a unit. In a mixed-use, each shop, office, or industrial unit will also be a unit
• A separate unit-holder will own the freehold to each unit
• The commonhold association, a company limited by guarantee with prescribed form memorandum and articles, will own the freehold to the structure and common parts of the development. Each unit-holder will be a member of the commonhold association and will be allocated one vote. Voting rights can be weighted, for example, to benefit members that own larger units
• The commonhold association will control the management of the development in accordance with a commonhold community statement. The commonhold community statement will contain provisions similar to a tenant’s covenants in a lease and will be based on a statutory prescribed form with additional rules specific to the particular development. For example, each unit-holder will be responsible for the maintenance of its own unit and the commonhold association will be responsible for the repair of the structure and common parts
• Each unit-holder will be liable to contribute towards the expenses of the commonhold association by the payment of a commonhold assessment, similar to the service charge payable under the leasehold regime, with provision for a reserve fund
• The freehold interest in a unit may be assigned or charged by the unit-holder without the need to obtain consent or licence. Regulations prohibit the grant of leases of residential (but not commercial) commonhold units for a term of more than seven years

How is a commonhold created?

A commonhold may be created either with or without unit-holders.

Without unit-holders

Commonhold is most likely to be used for new developments i.e. before the identity of the eventual unit-holders is known. The developer must own the freehold of the proposed development and must apply to the Land Registry to register its interest as a commonhold. As part of the registration process, the developer must set up the commonhold association and finalise the commonhold community statement. During this “transitional period” the commonhold community statement will not have effect and the commonhold association will not yet own the common parts.

The sale of the first unit will end the transitional period and trigger the transfer of the common parts to the commonhold association and the coming into effect of the commonhold community statement. The developer may include “local rules” in the commonhold community statement for the duration of its involvement to ensure that it retains an appropriate degree of control over completion of the development. The sale of the final unit will mark the end of the developer’s involvement in the commonhold.

With unit-holders

Although less likely to be seen in practice, existing leasehold developments can be converted into commonhold schemes. The applicant must own the freehold, and all existing leaseholders and any mortgagees must consent to the application to convert. All existing leases will be extinguished on the creation of the commonhold and leaseholders will, presumably, negotiate suitable consideration as a condition of giving consent to the creation of the commonhold and/or will be granted a commonhold unit in place of their lease. The commonhold community statement will have effect and the common parts will be transferred to the commonhold association immediately on completion of the registration of the commonhold at the Land Registry.

What are the advantages of commonhold?

A commonhold development may have a number of advantages over the current leasehold regime:

• The unit-holder will own the freehold interest to its unit, rather than a diminishing leasehold interest. Commonhold properties may attract a premium as a result
• The commonhold community statement will be drafted in straightforward language and will be identical for each unit. Unit-holders will benefit from this transparency and the knowledge that identical provisions bind all unit-holders within the commonhold
• Once a commonhold has been established the initial disposal of individual units is likely to be quicker, and the associated costs less, as the commonhold community statement and associated documents will be in a set form and will not be open to further negotiation
• The commonhold community statement cannot restrict the ability of a unit-holder to sell or let its unit, subject to the seven year restriction on the lease of residential units mentioned above
• Unit-holders may benefit from an increased level of involvement in their own commonhold community and the ability to take steps to effectively enforce any breach of the terms of the commonhold community statement by another unit-holder via the commonhold association

And the possible disadvantages?

• At present, it is not possible to create a tiered service charge or allow specific parts of a mixed-use commonhold to “self govern”. This may make commonhold unattractive for mixed schemes, although it is likely that further regulations will be made to remove these difficulties
• There is a real threat that commonhold associations could easily become insolvent. This is because the commonhold association will not have the right to forfeit a unit for non-payment of the commonhold assessment and will not be able to use any reserve fund to cover any shortfall as a result of non-payment. Lenders, in particular, are unlikely to fully endorse commonhold until this concern is addressed
• There is no requirement for the commonhold assessment to be reasonable and unit-holders will not have the benefit of the statutory protection available to residential tenants
• Commonhold is currently a “one size fits all” scheme. The basic statutory documents are identical in form for all commonholds and do not take into account the different requirements of commercial over residential, and/or large over small, commonhold schemes
• It is perhaps naïve to assume that the transfer of power from a landlord to a commonhold association will result in unit-holders living and working in harmony any more than leaseholders under the current leasehold regime

Conclusion

It remains to be seen whether commonhold follows the successful examples of similar schemes in Australia (strata title) and the USA (condominium title).

At present, the most likely application seems to be to residential developments, that would currently be set up using leasehold structure, and to small commercial developments. It is anticipated that further regulations will be made in the near future to address some of the concerns that currently prevent the successful application of commonhold to mixed schemes and to address the insolvency issue in particular.