Overage Agreements: What Are They and How Do They Work?

There's a lot of discussion about how complicated overage is. The mention of overage is often greeted with trepidation as to what it might entail as a person contemplating entering into an overage agreement, whether as a seller or a buyer. Knowing what factors are important will help you conduct your negotiations and anticipate where the bumps in the road may occur.

What Is Overage?

An overage is a way in which a seller of potential development land can share in the uplift in value of that land once it has the benefit of planning permission. It is one of those possibilities for development land sales that goes on the same shelf as option agreements and conditional contracts. Buyers may want to agree to make an overage payment so that they can buy the land outright immediately, rather than waiting for the outcome of a planning decision (which is usually the delaying factor in options and conditional contracts).

How Long Does an Overage Last?

Overage is usually operational over a finite period of time following the sale of the land to the buyer. It would be unreasonable to have an indefinite period of overage. It is usually linked to the time the parties believe it would be reasonable for the anticipated increase in value to be realised. You should think carefully about what will cause the anticipated increase in value and how long it is likely for that to take to achieve. That will be your starting point for negotiation of this point.

When Do You Pay Overage?

Often a heated point of negotiation (and in the worst cases a point of confusion if the document has not been properly drafted) is what will be the trigger point for the overage payment to be made back to the seller? 

As a rule of thumb, sellers want the trigger to activate as soon as possible so they get their money quickly. Buyers want it as late as possible. In particular, buyers will not want to agree to make payments where they have not made any realisations themselves. Where will they get the funds from to make the payments if they have not actually sold anything?

On the other hand, the seller needs to be aware that the trigger falls within the overage agreement period. In a recent case in which overage was payable on the sale of the final units on the development site, the buyer did not sell the completed homes until the overage period had expired expressly to avoid paying the seller the uplift payment.

In this case, the court implied a term into the contract that the buyer should use "reasonable endeavours" to sell the final properties on the development within the overage period on the basis the clause was "so obvious it goes without saying". This saved the seller on this occasion, but it is better not to rely on the courts to get you out of these situations. The difficulty here for the seller is spotting the potential loopholes and trying to find ways of shutting them down.

How is overage calculated?

Calculation of the uplift can be tricky too. Are you going to agree to a fixed sum to be paid per unit on the site or a percentage of the uplift in value of the land or of the actual sale proceeds? Each method comes with its intricacies:

• Fixed sums are not inflation-proof.
• Percentage uplifts on value require the parties to agree on how the property will be valued.
• Percentage uplifts on actual sale proceeds need confirmation that the best value has been achieved. 

Once the payment mechanism has been agreed, there will also have to be a discussion about whether payment will be made as a lump sum or on a drip-feed over time. Again, this will be largely dictated by how the payment is calculated. Multiple payments made over time can cause problems with lenders and subsequent purchasers, so you should take care if you choose this option.

How To Protect Your Payment

How will you protect your additional payment? Possibilities include taking a guarantee from the buyer, keeping hold of a ransom strip on the land or taking a restrictive covenant on the land and registering it at the Land Registry. What is best will be dictated by the circumstances of each individual case. 

In any event, seeking professional advice before committing to an overage arrangement from a surveyor and your legal advisers will always assist in letting the matter go smoothly. 

Here to help

If you have any more questions or would like more information regarding overage arrangements, you can contact our Commercial Property Team below.