Structuring Residential Leasehold Development Schemes - Part 3

Our first two blogs in this series looked at the options for a developer, in structuring a residential leasehold development scheme, to either retain both the reversion and the management of the building, or to simply retain the reversion and contract out the management and provision of services to a management company. The blogs can be accessed using the following links: Blog 1 and Blog 2. 

In this third blog the focus will be on the developer who wishes to dispose entirely of the reversion and the management responsibilities to a tenant’s management company.

In order to achieve this arrangement the legal documentation must be carefully drafted to include the required information, particularly the lease which, amongst other things, will govern the responsibility for managing the development and also the passing of the reversion from the developer landlord to the tenant’s management company.

There are two options available to a landlord in passing the reversion to the tenant’s management company: transferring the freehold, usually on the sale of the last property within the development; or granting a lease of the reversion (also known as a concurrent lease).

Under the first model, the tenant’s management company will take an assignment of the freehold reversion from the landlord developer who will no longer receive any income from the flats and whose interest in the reversion will cease to exist.

In contrast, the second model works such that the developer landlord will still receive regular income from the flats, but will grant a lease of the reversion to the tenant’s management company which will act as an intermediary lease and will ‘sit’ between the freehold and the tenant leases (like a headlease would but NOT operating as one). The tenant’s management company will be the tenant under the lease of the reversion (the concurrent tenant). The concurrent tenant will take on the responsibilities of the landlord and will be responsible for managing the building, but will need to pass the rent payments to the developer landlord so it can continue to receive the rental income.

The main advantages of this arrangement are:

• Eventually, the developer landlord can divest itself of its responsibilities as landlord and the tenants can be responsible for running the development;
• Prospective tenants may view the potential to run their own development as a positive benefit that can be used when marketing the flats; and
• If the tenants are well-organised, this arrangement may result in better-negotiated contracts, a reduction in costs and the provision (and cost) of only those services that the tenants require.

The main disadvantages of this arrangement are:

• It is very complicated. This type of arrangement includes the preparation of relevant corporate documentation in relation to the set-up of the tenant management company.
• The timing of the documentation is critical and, if not done correctly, the tenant’s right of first refusal may kick in when it comes to the disposal of the freehold or the grant of a lease of the reversion by the developer, whichever it decides to use to pass on the reversion.
• Transferring the management company to the tenants in a way that they understand may be time consuming.
• There is a strong possibility that the tenants may not be skilled enough to manage the development and this can have serious consequences, such as the management company being struck off the register of companies for not meeting filing requirements. On dissolution the freehold of the building will pass bona vacantia i.e. to the Crown, and the management company will need to be restored in order for a tenant to sell its flat.

Bearing in mind the number of disadvantages to this arrangement and the possible inability of the tenants to manage the development, provision can be made in the legal documentation for the tenant management company to appoint managing agents.

Where a developer wishes to dispose of the reversion and also the management responsibilities to a tenant management company, it is therefore important that both the developer and the tenants fully understand the responsibilities involved and the consequences of the tenant management company failing properly to manage the development.

Our next and final blog in this series will explore other potential options open to a developer setting up a residential leasehold development scheme, such as a Tyneside Flat lease scheme.

If you are a developer entering into a leasehold development scheme and would like advice on the best structure to suit your needs, or if you would like us to set up a particular residential leasehold development scheme for you, our Residential Development team can meet all of your legal needs. You can contact us by calling 0161 941 4000 or by emailing lawyers@myerson.co.uk.