By GREG TOWERS of Simpson Grierson
Q. I am thinking of purchasing a leasehold apartment in Wellington. Is there a premium for non-leasehold-type properties? Do you think I will have any trouble reselling the property at all and is there anything I should be looking out for?
A. Unfortunately, there is no straightforward or simple answer to your question as each leasehold property will be held under different lease terms. However, there are some general comments that may be of some assistance to you.
Registered leasehold properties can be split into two broad categories. The first is where they are for a finite term such as 50 or even 100 years. Examples of such leases would include the apartments on Princes Wharf in Downtown Auckland.
The second category is leases which, although they have a finite term including rights of renewal that, if exercised, enable the lease to continue in perpetuity.
Obviously, a leasehold estate that has a finite term and is not capable of renewal- without renegotiation with the landlord - has a reducing value, all other things being equal. The closer to the termination date the less valuable that leasehold estate will be as there is less time left for the tenant to use the property which, at the end of the lease, reverts back to the landlord. A perpetually renewable lease does not suffer from this problem.
However, in respect of both types of leases the value at any given time attributable to the leasehold property is affected by the level of rental payable under the lease. Many older perpetually renewable leases have terms of 21 years with rent reviews occurring upon each renewal. Obviously, with the effects of inflation, the rentals payable in the latter years of the then current term become vastly different to what the market rental would otherwise have been if more frequent reviews had occurred during the term. While this may have a cashflow advantage to the tenants, one needs to bear in mind that once the renewal occurs there will be a significant increase in the rental payable under the lease. Historically, some of the increases that have applied in these circumstances have meant increases of over 5000 per cent.
To avoid the obvious difficulties that can occur with such irregular rent review periods, many registered ground leases have been voluntarily altered by the parties to incorporate more frequent rent reviews, usually on a seven-year basis for residential properties but even more frequently for commercial or industrial properties. This "smooths" out the rent increases.
At any given time the value attributable to a leasehold property takes into account the rental then payable and the likely rental payable if there is an imminent rent review. Many people view leasehold properties as a means of financing themselves into a property which they otherwise would not be able to afford if they were purchasing the property on a freehold basis. This is because with leasehold properties the value will typically be lower than would otherwise be payable for an equivalent freehold property.
One aspect to consider is whether the terms of the lease entitle you, as the tenant, to elect to purchase the property. Usually you would purchase the property on the basis of a formula set out in the lease and such formula could even just be current market value assessed by registered valuers. If this option is available then using the leasehold mechanism does operate as a means of financing a purchaser into a property they might otherwise not be able to afford at the date of purchase.
As with any lease you should make sure you are aware of any obligations contained within the lease, particularly those which would not normally apply to you if you owned the property freehold. For instance, a leasehold property comprised within a multi-unit property may have certain usage restrictions similar to what might apply in a body corporate structure such as the ability to paint or decorate the exterior or the type of use to which the property can be put.
Depending on the nature of these restrictions they may, or may not, deter purchasers from buying the leasehold property. Of course, apart from town planning restrictions, which affect the use of all types of property, such usage restrictions would not apply to freehold property. This is another reason why freehold properties are more valuable than leasehold properties when comparing properties that are physically similar.
As with all legal documentation, ensure that you fully understand the terms of the lease.