KEY POINTS:
Purchasing a leasehold property is a relatively cheap way of getting real estate in a booming market.
The concept seems great to many people: buy property at a discount and own only the house and not the ground it sits on.
And if you want to live anywhere
around Auckland's waterfront, it's pretty much a certainty that you won't own the land.
Hundreds of hectares in Auckland are in leasehold title, a structure which is often not well understood - until rent review time.
It works like this: you buy an apartment but you don't own the land under it. That land is in the hands of a ground lessor which may be a church, the Crown, Maori, a port authority, a council or a company.
You pay an annual ground rent, enjoy the proximity to the city and get on with your life.
Then comes flashpoint: the lessor decides to put up the rent. That's precisely what is happening in Beaumont Quarter, an exclusive precinct of the city, where apartment owners are aghast at a proposed fee hike of more than 400 per cent.
A corporate landowner is planning to increase annual ground rent fees at the housing complex from $900,000 to $4.4 million, a move it says is based on two property valuations and professional reports.
Residents around the waterfront on Viaduct Harbour Holdings' land have had ground rent shocks this decade, from the apartment zones near the CBD across to the Westhaven side.
Parts of Parnell face looming rent reviews soon. In One Tree Hill, houses' ground rents shot up to a crippling annual $30,000 in 2005 and forced mortgagee sales.
City dwellers are not alone.
This week, Federated Farmers criticised the Government for not acting fast enough to resolve rent hearings on South Island high country pastoral leases after Crown Law said it would bring in a Queen's Counsel. October would be the earliest date for a hearing at the Land Valuation Tribunal, the farmers complained.
In Auckland, Beaumont Partners, managed by Augusta Funds Management, wants to raise ground rents at the 258-apartment Beaumont Quarter. The company commissioned Jones Lang LaSalle (JLL) to value land and the numbers were confirmed by Colliers International.
Ground rents are due to rise from an average $3400 a unit to an average $17,100 a unit but apartment owners are crying out against the big increase.
Beaumont wants $4.4 million ground rent a year but the residents' valuation advice from Brett Smithies of Extensor Advisory puts the land value at just $2.2 million. They hired lawyer John Carter to fight their case, accused Beaumont of bullying them and said they would meet on April 29 to discuss the issue.
The matter dates back to September 26, when Beaumont Partners got a valuation of its interests on the Beaumont St site opposite Victoria Park from JLL valuers Michael McLean and Dean Humphries. That showed the freehold land value was worth $63,365,000 which was calculated as the 21,850sq m of land multiplied by $2900 per sq m. This is the raw land value assuming it was unimproved and sitting vacant.
The number that is used to calculate the ground rent was 7 per cent of the $63,365,000 which equals $4,435,000 annually - the new ground rent.
Jones Lang calculated a value of $76,700,000 for the property as the value of the lessor's interest, that is the value of the freehold land with the benefit of perpetual income from 258 residents. Before Beaumont Partners went to the apartment owners or lessees, the land owner had the JLL valuation peer reviewed by Colliers International which confirmed the valuation.
Mark Francis, managing director of Augusta Funds, which manages Beaumont Partners, said the new ground rent had been thoroughly reviewed by experts at two of New Zealand's top valuation practices.
The Jones Lang valuation was commissioned before Beaumont Partners bought the property on Christmas Eve, he said.
"We didn't want to go in with just one valuation, so we had it peer reviewed by Colliers. We wanted to be very thorough about it and get our price right," Francis said.
"One of the issues we've got is that we have pressures of our own. We've got $41 million debt, not to mention the interest. So our first interest bill was due on April 1," he said, citing a $1 million amount due to ASB which loaned Beaumont money to buy the land.
"All this is structured around the basis that from April 1, all those tenants are paying a new ground rent and we've had to say 'we appreciate this is a big jump but we have commitments to ASB as agreed'. We are already two weeks overdue with the interest payment to ASB but they appreciate we're trying to negotiate a settlement."
Beaumont Partners has attempted to calm the situation by offering apartment owners the opportunity to delay full payment. It has offered unit owners the opportunity to gradually increase fee payments.
"We've taken a reasonable stance. We're not asking for anything the lease doesn't provide for."
But he also encouraged apartment owners to be realistic about their properties.
"This is the nature of ground rentals. They sit idle for seven years," he said.
Augusta Funds Management is the promoter and manager of Beaumont Partners and manages Kermadec Property Fund, listed on the NZX in December 2006.
Kermadec's shares are trading at 72c, down from an annual high of $1.15 and the company has a market capitalisation of $55.3 million making it one of the smallest listed real estate vehicles in New Zealand.
Beaumont residents had it easy most of this decade. In 2001, the annual ground rent fee was set at $900,218. That was when Nigel McKenna's Melview Developments was building on the site.
The JLL valuation, carried out for the lessor for mortgage advancement, showed the 2.1ha site was worth $63.3 million and ground rent was set at 7 per cent of the land's value.
But JLL also predicted trouble. "As this is the first ground rental review and there have been substantial increases in land values, the rental review process is, in all likelihood, going to be litigious and potentially drawn out with significant legal costs on either side," the valuers wrote.
But JLL valuers said they were also aware of a number of big prices paid for leasehold land. They cited one sale last January when a lessor sold their interest in land under 13 St Heliers residential properties for $12.9 million. Fourteen sites sold in May for $10 million.
Few property professionals love leasehold.
Christchurch developer Hugh Pavletich describes it as something to avoid at all costs, particularly for residential property. Leasehold properties can be virtually unsellable in a falling market, he says.
Trevor Rands, an Auckland agent, reckons anyone who can draw two straight lines would run from leasehold because land values will always equal and then surpass the value of improvements at some point.
He has been predicting big trouble for years.
He is worried about Parnell's The Strand, where leasehold blocks come up for review in three years because most of it is low-rise yet rent reviews will be based on best-use value.
Auckland investor Olly Newland says leasehold structure is the most useless investment devised because over time improvements depreciate but the land does not.
Over the term of the lease, the ground rent review gets closer so the value of the lease goes down faster and faster as buyers resist fearing a huge increase in the ground rent. Mortgages are harder to get because the mortgagee cannot take security on the land, but only the lease which is worth much less, Newland says.
The only advantage with leasehold is that the property is cheaper than freehold, he says.
But Cornerstone Group's Rick Martin loves the formula and has converted Albany freehold to leasehold, acknowledging that he admired Viaduct Harbour Holdings for applying the tenure structure to Auckland's waterfront.
Martin says: "Why on earth would I ever sell the land? I want to create a perpetual asset."
