We saw in December’s article that there are good reasons why a prudent developer would want to put in place an appropriate legal structure to facilitate its disposal programme. This article looks at some alternatives that may achieve this, including utilising exemptions permitted under the 1987 Landlord and Tenant Act.
The developer could enter into a disposal to an associated special purpose vehicle company (SPV) in contemplation of a subsequent corporate sale of the SPV once an investor buyer is found. This applies even if qualifying residential tenants then exist, as a corporate sale is not a relevant disposal for the purposes of the 1987 Act. A corporate sale also has the bonus of a stamp duty saving for the buyer on the sale of shares not property and it then becomes a timing issue as to the price achieved and what are the assets owned by the SPV that are to be disposed of. However, it may not prove commercially viable if a buyer has to do a lot of due diligence into the company’s trading history.
The first relevant exemption for a developer to consider under the 1987 Act is a disposal pursuant to a contract or option entered into before flat sales commence, so that the Act does not apply at all. This would allow the developer for example to contract to sell the freehold reversion or grant a long leasehold interest in the residential areas benefiting from the flat ground rents once the last flat has been sold.
If qualifying tenants exist because flat sales have already commenced but a corporate sale is not feasible, a further exemption under the 1987 Act allows a corporate developer to sell or lease to an associated company that has been associated with the developer for at least two years. A developer that sets up a separate company to undertake each development may well have a dormant associated company that could be utilised for this purpose.
The developer could then ring-fence either the commercial or the residential areas so that they are vested in different legal entities, albeit both owned and controlled by the developer. Any headlease of the commercial space would leave the developer’s associated company free to grant underleases out of it. This would not contravene the right of first refusal, as the associated company is not the landlord of the qualifying residential tenants.
This headlease could demise the commercial areas’ internal parts only for say 999 years. While typically it would exclude the structural elements and any common areas over which the residential tenants enjoy rights, the developer should consider whether it wants to retain the airspace above the roof of the development if it has any future development potential or any existing telecommunication mast.
The developer, however, will have to be confident about its future relationship with any buyer as the terms of the commercial headlease could become critical where the developer sells the freehold and cedes control of the development, while retaining a valuable leasehold interest. Notwithstanding its associated company will be the tenant under the commercial headlease, the developer will want to ensure it has a largely free hand particularly to sell long leases or grant rack rent leases without the need for landlord’s consent and the risk of either unacceptable conditions constraining the developer’s chosen course of action or possible outright refusal.
This will involve a deft touch drafting the commercial headlease - on the one hand, giving sufficient control to the eventual freehold owner, as well as protecting the existing tenants’ rights with, on the other hand, the developer’s possible requirements to carry out alterations perhaps to re-configure commercial areas, or change its use as market demand dictates or even carry out further development.
The developer will also need to ensure it has all the requisite rights it or any commercial tenant has or may need to occupy and operate from the commercial space to carry out alterations and run services outside of the commercial space and to put say satellite and other telecommunications equipment and air-conditioning kit on the roof of the development. Other issues to be addressed will be signage, loading, unloading and servicing facilities for retail tenants and adequate parking for Class B1 tenants.
If the developer wants to sell the residential ground rents it could parcel up the development’s residential elements, including its amenity areas and common parts, by way of a long headlease that would then benefit from the ground rent income stream from the flats. This lease could be granted at a peppercorn to move the economic value in this part of the development from the freehold to the long leasehold interest to appeal to an investor.
Whatever the developer’s chosen course of action it will need advice on the prospective tax liability and corporate issues arising from putting a legal structure in place to facilitate either asset disposals or a corporate sale. While ensuring it does not contravene residential tenants’ right of first refusal is not the be all and end all for a developer determining an appropriate disposal strategy nonetheless developers need to be aware of its capacity to frustrate a disposal programme, even if there is little or no chance that qualifying tenants would want to accept an offer to take commercial space on market terms.
About the author
Andrew Cooper is a consultant solicitor at Keystone Law
February property articles from leading experts in the commercial property sector
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