The leasehold risks that turn a good yield into a bad one
A leasehold flat is a share in a building you do not control. The costs of that building arrive whether you can afford them or not.
Leasehold investment looks attractive because flats are cheaper, easier to let and often in areas with strong tenant demand. The risks are also concentrated: you own the inside of a property but you are financially exposed to the whole building, and you have limited control over what is spent on it.
The costs are the first thing to establish, because a service charge can consume the entire rental profit on a poorly chosen flat. It is also the cost most likely to change without your agreement.
The costs to establish before buying
Ask for three years of service charge accounts and the current budget, not just the current annual figure. A charge that has risen sharply is a warning, and a charge that has been kept artificially low often precedes a large bill for works that have been deferred.
- Service charge history and current budget, with a note of what is included
- Any planned major works, and whether a section 20 consultation has started
- Ground rent, and whether the review clause doubles it periodically
- The reserve fund balance, because a building with no sinking fund will bill leaseholders when the roof needs replacing
- Buildings insurance arrangements and whether the leaseholder pays a commission on it
- Any outstanding disputes, tribunal cases or litigation involving the freeholder
Building safety
Buildings with cladding or other fire safety defects have been the most serious leasehold risk of the last several years. Remediation costs can be enormous, lenders may refuse to lend, and the leaseholder can be liable for a share.
Establish whether the building has an EWS1 form or an equivalent assessment, whether any remediation is planned or underway, and who is paying for it. Where a building is affected, the practical position is that the property may be unsaleable and unmortgageable for an extended period, regardless of the price.
Control and disputes
The freeholder controls the building's management, and the leaseholder's remedies are slow and expensive. Where the freeholder is unresponsive, the leaseholders can exercise the right to manage or apply for the freehold, but both take time and require a majority of leaseholders to cooperate.
Check who the freeholder is and whether the building is managed by the leaseholders themselves through a residents' management company. A well-run, leaseholder-controlled building is a materially different investment from one managed by a disengaged freeholder, and the difference shows up in the service charge and in the ease of selling later.
Common questions
- What is a reasonable service charge?
- It varies enormously by building and by what it covers — a lift, a concierge and a gym cost far more than a simple block with a communal staircase. What matters is the trend and the reserve fund rather than the absolute figure. A charge that has risen sharply, or a building with no reserve fund, indicates costs still to come.
- Should I buy a flat with cladding problems?
- Only with your eyes open, and usually only at a very substantial discount. The property may be unmortgageable, the remediation cost may be large, and the timescale is uncertain. Establish whether the building qualifies for a government remediation scheme and who is liable for any shortfall before committing.