Court ensures investor’s interest in penthouse flat is protected.

Investors know that space is at a premium in central London and that a penthouse flat attracts a particular premium. No one who pays a premium for a penthouse flat in a prime central London location wants to then see its landlord build on top of it. Many investors who bought penthouse flats in the past thirty years and were well advised, negotiated restrictions which ensured that the value of the flat was protected. In particular, it is not uncommon to find restrictive covenants in such leases which prevent landlords building into the airspace above and it goes without saying that any investor is going to want to ensure that such covenants are repeated in a lease extension in the Leasehold Reform Housing and Urban Development Act 1993 (the “Act”).

Can a leaseholder always ensure that restrictive covenants such as these, which protect the investment interest in the property, will be repeated in a lease extension and that, importantly, the party who owns the airspace will be required to repeat the covenants?
This was the position Hamlins’ client was in and, in a decision that what handed down yesterday, the court decided in the investor leaseholder’s favour.

Relevance/Background

The leaseholder was granted a long lease of the penthouse in a block of flats in a Prime Central London location. The landlord (who was then the freeholder) entered into an obligation in the lease not to build into the airspace above the penthouse (i.e. ensuring that it would always remain the penthouse).

A number of years later the original freeholder sold its interest to an investor who, shortly after acquiring the freehold, granted a 999 year lease to a group company. Although there is nothing unusual about ground rent investors granting a “buffer lease” between the freehold and the flat leases in this case the lease was unusual. The overriding lease (i.e. the lease between the freehold and the flat l) was simply of the penthouse flat i.e. it didn’t include any other flats or any common parts.

The leaseholder then decided to extend its lease under the Act. In the usual way, it is entitled to a new lease on the same terms as the previous lease including the landlord’s obligation not to build into the airspace.

The problem here was that, under the Act, the leaseholder had to claim a new lease from its immediate landlord who did not have any interest in the airspace, just the penthouse flat. The landlord was not in a position to give a covenant to the tenant in its new lease not to build up into the airspace and for that covenant to be properly enforceable, the leaseholder argued that it would need the freeholder to be a party to the new lease. If the intermediate landlord is the landlord under the Act then the freeholder cannot be required to participate.

For this reason, the leaseholder served a notice on both the freeholder and the long leaseholder arguing that they were both landlords. The argument put by the leaseholder was that the reversion (i.e. the landlord’s interest that remained in the flat) was split between the freeholder and the long leaseholder making them both landlords for the purposes of the Act.

The freeholder and long leaseholder argued that this was incorrect and that only the long leaseholder was the landlord for the purposes of the Act.

Conclusion

As the judge himself commented it was the policy behind the Act that, as a general rule, a new lease should be on the same terms as the existing lease. The intention of Parliament would be defeated if a landlord could evade an inconvenient covenant by simply granting an overriding lease of the flat which benefited from that covenant to another vehicle which the landlord owned and controlled. If the landlord’s analysis were correct, the judge found, that would have been the outcome in the present case.

Ultimately, the judge agreed with the arguments put forward by the leaseholder, that both the long leaseholder and the freeholder were the landlords for the purposes of the lease extension claim. This means the leaseholder can require the freeholder to be a party to the new lease and repeat the obligation not to build into the airspace.

This case serves as a reminder that the main purpose of the Act is to protect leaseholders’ investment interest in flats and to ensure they are entitled to a lease on the same terms as previously granted.

This case is good news for investors who are interested in protecting the value of their assets and serves as a warning for landlord developers who want to try and structure their assets so they can develop round or on top of leaseholders.

The landlord has been given permission to appeal by the trial judge and is seeking to leapfrog the appeal to the Court of Appeal.

If you have any questions relating to this update please contact Sarah Finch.