Right Of First Refusal – The Exceptions
As we have mentioned in a prior article (link below) it is essential that a Landlord making a “relevant disposal” of a building containing flats should comply with the requirement to offer the tenants the interest first (by serving a section 5 notice on them) as they have a right of first refusal under the Landlord and Tenant Act 1987 (“the Act”).
For the Right of First Refusal (RFR) to exist the building must:
- Contain at least two flats
- Not have more than 50% non-residential use
- Have more than 50% of the flats held by qualifying tenants
The requirements apply to all “relevant disposals” BUT the RFR only applies where the tenants’ immediate landlord is selling, so where there is an intermediate landlord, the freeholder could dispose of their interest without invoking RFR.
Creation of a new head lease, sale of the reversion and a disposal of common parts of the property ALL constitute a “relevant disposal” for the purposes of the Act.
Where the disposal is subject to a contract the disposal occurs on the date of the contract and NOT on completion of the sale.
The legislation does however provide for some disposals to be exempt including (but not limited to)
- The grant of a tenancy of a single flat
- A disposal by way of security for a loan
- Some disposals relating to inheritance or matrimonial provisions
- A disposal by a company to a company that has been associated with it for at least two years.
WHERE LAND IS HELD BY A COMPANY
In respect of the last point, a company is “associated” with another company within the meaning of the Companies Act if one company holds a majority of the voting rights in it OR is a member of that company and has the right to appoint or remove the board of directors.
A tenant who receives notice that a disposal is exempt for this ground should investigate at Companies House whether the companies are in fact “associated”. Simply having the same directors will not be sufficient.
Currently if a landlord in a qualifying building wants to avoid the provisions of the Act he must:
- Create an associated company and wait for at least 2 years
- Transfer the property to the associated company
- Sell the shares in the associated company
If these steps are followed, the disposal will not be a “relevant disposal” for the purposes of the Act as transaction (2) above was exempt and in transaction (3) only the shares in the company, not the property itself was transferred. However, this must be treated with extreme caution. Transfer (3) must take place after the transfer of the land. A landlord must take particular care that – where they have entered into an agreement with a purchaser for the sale of the shares conditional on the purchase of the land – at the time of the transfer the landlord must not be deemed to hold the shares in a fiduciary capacity for the purchaser. If this fiduciary capacity exists then the disposal would not be to an associated company and would be a “relevant disposal” for the purposes of the Act.
SLC solicitors have recently been involved in a case where a landlord company transferred a qualifying property to an individual “on trust” for an associated company and argued that this met the exemption criteria. Unfortunately the case settled before being tested at court. However, if the landlord has an associated company available to it, then it would seem a safer option to transfer the property directly to that company, rather than risk reliance on the provisions of a trust to ensure that the transaction fell within the exemption to the Act.
A landlord who does not comply with the requirements of the Act commits a criminal offence and is subject to a Level 5 fine on conviction. The tenants’ remedy is to compel the new landlord to transfer the property to them for the same terms as the original sale – including the purchase price -and time only starts to run from when the tenants became aware that the RFR applied to the transaction.
The purchaser of a freehold property where RFR is likely to apply should therefore insist on evidence that RFR has been complied with and serve notice on the tenants as soon as possible stating that RFR applied to the transaction or risk being compelled to give up the property to the tenants later.
If you would like advice on the Right of First Refusal please contact Analise Broomhall, Head of Property at SLC Solicitors: firstname.lastname@example.org