JOSE CAPELO v BARSTOW INVESTMENTS LIMITED LRA/31/2002

UPPER TRIBUNAL
LANDS CHAMBER
LRA/31/2002Case No LRA/31/2002
JOSE CAPELOApplicantBARSTOW INVESTMENTS LIMITEDRespondent
P R Francis FRICSJonathan Small (instructed by Jennifer Israel & Co, Solicitors of London N 20) for AppellantMartin Dray (instructed by Pemberton Greenish, solicitors of London SW1) for RespondentVenue 48/49 Chancery Lane, London, WC2A 1JRHearing 24 & 25 November 2003Property: First Floor Flat, 70 Cornwall Gardens,, London, SW7 4BACatchwords: LEASEHOLD ENFRANCHISEMENT – flat – premium payable for long lease – method of valuing landlord’s interest – yield – whether risk of tenant holding over – whether additional value for 900 year lease or share of freehold – Leasehold Reform, Housing and Urban Development Act 1993 Schedule 13 – appeals dismissed – enfranchisement price confirmed at £334,500
[1]This is an appeal by Mr Jose Capelo, the lessee of the First Floor Flat, 70 Cornwall Gardens, London, SW7 4BA (“the subject flat”) and a cross-appeal by the landlord, Barstow Investments Ltd, against a decision of the Leasehold Valuation Tribunal for the London Rent Assessment Panel (“the LVT”) determining the price to be paid for a new lease of 96 years under the provisions of Schedule 13 of the Leasehold Reform, Housing and Urban Development Act 1993 (“the Act”) at £334,500. By order of this Tribunal dated 23 August 2002 the appeal and cross-appeal were consolidated, and before me the lessee, treated here as the appellant, contended initially for a price of £224,250, revised during the hearing to £235,500. The respondent landlord sought a price of £490,000.[2]Counsel for the appellant, Mr Jonathan Small, called Mr Timothy Curran BA MSc MRICS MRTPI who gave valuation evidence and Mr Ian Asbury BSc MRICS who gave evidence as to the market for freehold ground rent investments. Mr Martin Dray, counsel for the respondent, called Mrs Jennifer Ellis FRICS who gave valuation evidence.[3]I inspected the subject flat both internally and externally on 26 November 2003 and viewed, from the street only, a number of the comparables referred to in evidence, all of which were in Cornwall Gardens. FACTS[4]The valuation experts had prepared an agreed statement from which, together with the evidence and my inspection of the subject property and surrounding area, I find the following facts:4.1 Cornwall Gardens is located a short distance to the north of the Cromwell Road (A4) in the Royal Borough of Kensington and Chelsea, is a conservation area, and is convenient for Gloucester Road tube station, the Natural History and Victoria and Albert Museums and local shops and other facilities.4.2 The subject flat comprises a self-contained first floor apartment in a stucco fronted terrace house that was built in about 1870 and is listed Grade II. The building has accommodation on basement, ground and four upper floors and lies on the south side of the square, having a northerly aspect over the central gardens. The flat is approached off a communal staircase (there is no lift) and contains a small entrance vestibule, large full width reception room with deep windows to front and double casement doors leading on to a small balcony, modern fitted kitchen, a large double bedroom to the rear with fitted wardrobes and cupboards, an interconnecting study/occasional second bedroom and a fully tiled bathroom. The gross internal area (“GIA”) is 93.23 sq m (1,003 sq ft).4.3 The subject flat is in reasonable decorative order, and the lessee has undertaken modernisation, refurbishment and improvement works that include the upgrading of 3 the central heating system, rewiring and provision of recessed halogen ceiling lights in principal rooms, refitting of the kitchen and bathroom with good quality appliances and fittings and installation of full height fitted wardrobes and cupboards in the bedroom. On the mezzanine between the 1st and 2nd floors, accessed also off the communal staircase, is a small room of 4 sq m (43 sq ft) that contains the central heating boiler, cold water and header tanks. It does not currently form part of the leasehold demise, but will be included within the new lease.4.4 The freehold of the whole building is vested in 70 Cornwall Gardens Ltd, and the landlord’s interest is the remainder of a 999 year lease granted 29 September 1999, there being 996 years remaining at the valuation date (agreed to be 26 February 2002). The existing underlease of the subject flat was granted on 13 December 1966, this being the remainder of an underlease for a term of 59.5 years less 3 days from 29 September 1948 at a fixed ground rent of £50 per annum and with a fixed service charge, thus due to expire on 25 March 2008. The flat therefore had 6 years unexpired at the valuation date, and the new underlease claimed will be for a term of 96 years.4.5 The parties agreed that the redevelopment break clause operable under s61 of the Act is to be excluded from the new lease, and a full service charge will be payable from the valuation date. They also agreed that there was no dispute as to the LVT’s determination of the value of the lessee’s current interest at £136,500, that the marriage value is to be shared 50/50 and that there would be no value in the landlord’s reversionary interest after the grant of the statutory lease. ISSUES[5]On the ground that the LVT erred in determining an enfranchisement price of £334,500, the issues in dispute can be summarised as:[1]The method by which the value of the landlord’s reversionary interest is calculated – the conventional ‘term and reversion’ approach (landlord’s case), or a percentage of the future premium that a purchaser would anticipate deriving from the grant of an extended lease (tenant’s case) – and the resultant diminution in value. If the landlord’s methodology is preferred, the question of whether or not there is a risk that the tenant may hold over at the end of the term needs to be determined.[2]The value of the tenant’s interest post enfranchisement (new 96 year lease). Subsidiary issues under this head are(a) that Mrs Ellis attributes an additional £10,000 assuming vacant possession of the flat on a 996 year lease, whereas Mr Curran says there would be no difference, and(b) the extent and treatment of tenant’s improvements.[6]The differences between Mr Curran’s valuation (Appendix 1) and Mrs Ellis’s (Appendix 2), together with the LVT’s determination on these issues are summarised thus: 4 Issue Mr Curran Mrs Ellis LVT Diminution in value of landlord’s interest £100,000 £490,000 £298,000 Value of extended lease £507,500 £670,000 £507,500 Value of flat on 996 year lease £507,500 £680,000 £507,500 Discount rate n/a 7% 7% Capitalisation rate n/a 7% 7% Discount for risk of holding over n/a Nil 10% The evidence[7]Before turning to the main issues in dispute, I deal firstly with legal arguments that were before me regarding the admissibility of, and/or the weight I should attribute to the respondent’s evidence. Mr Small submitted that there were aspects of the respondent’s case that were materially different to that which had been before the LVT, the result being that evidential concessions that had been made in the tenant’s favour were effectively now being retracted. For example, before the LVT, the landlord had argued for an extended lease value of £600,000 with no uplift for a 996 year lease with vacant possession. Now, the valuation had risen to £670,000 with an uplift of £10,000 to reflect the additional value of a long lease. Similarly, a deduction of 10% for the risk of the tenant holding over was argued at the LVT, whereas the case now was for nil. As for tenant’s improvements, the landlord is now saying that most of the works undertaken at the tenant’s expense were not improvements whereas they had previously been accepted as such.[8]Mr Small said that whilst it is acknowledged that this is a re-hearing, and there is nothing to stop a party introducing new or additional evidence going to the same point, it is quite another matter to introduce a totally different evidential case. He referred to Sinclair Gardens v Franks (1997) P&CR 234 where HH Judge Michael Rich QC said (at 234): “….I would treat new evidence brought before the Lands Tribunal for the first time with, if not particular scepticism, at least with particular care, for I would not wish to encourage lessors to think that they can reserve the evidence which should have been offered to the LVT, when the parties appeared on equal terms, to the appeal before the Lands Tribunal, where the nominee purchaser may have exhausted his funds and is on risk as to costs. I agree with Mr P H Clarke that unless I am satisfied by the appellant’s evidence that the LVT was wrong, I should allow this decision to stand, rather than interfere with it because another valuation might equally be said not to be wrong.” 5 In this case, Mr Small said, the respondent landlord was trying to go one step further – to introduce evidence that directly conflicted with that which had been before the LVT. It was a fact that the landlord was now relying upon a different valuer, and there being nothing to show that the landlord’s former valuer was necessarily wrong, I should uphold the LVT’s decision on those matters and reject the new evidence.[9]For the respondent, Mr Dray said that although the landlord’s valuation of the extended lease is now higher than had previously been advanced, the LVT had neither accepted the landlord’s original figure, nor the tenant’s lower figure. Similarly, there had been no accord between the parties’ valuers in relation to improvements, and Mr Curran had not made any specific deduction at the LVT for the risk of holding over, neither does he now. Consequently, it cannot now be said that there had previously been any agreement or concessions between the parties in respect of these points.[10]Mr Dray said the right of appeal from the LVT is unqualified, and the parties are entitled to call fresh evidence; the appeal is to be determined upon that evidence and if as a result the Lands Tribunal is satisfied that the LVT’s decision was wrong, the appeal must be allowed (see Wellcome Trust v Romines [1999] 3 EGLR 229 and Carl v Grosvenor Estate Belgravia [2000] 3 EGLR 79). Furthermore, he said, even if some sort of agreement had been reached – for instance an admission by the landlord in respect of the improvements – the landlord should nonetheless be permitted to withdraw any such admission if in all the circumstances it is not unjust to do so i.e., where there is no prejudice to the tenant flowing from that change of position (see Gale v Superdrug Stores Plc [1996] 1 WLR 1089, CA and Becker Properties Ltd v Garden Court NW8 Property Co Ltd [1998] 1 EGLR 121). In this case, no prejudice has been occasioned as the tenant has been fully aware of the case it has to answer since the landlord served its Statement of Case in support of its cross-appeal, and Mrs Ellis’s report.[11]On the basis of these arguments, I can see no reason to exclude the limited new evidence that has been introduced by the respondent. In my view, no prejudice will be suffered by the appellant by its consideration but the fact that it is new may affect the weight to be given to it. Landlord’s Reversion[12]The appellant’s case was that, with only 6 years remaining on the lease, to use the conventional term and reversion approach would lead to an erroneous result – a figure that was, in reality, far more than an investor would be prepared to pay in anticipation of a return. In reality the valuation, performed in the hypothetical no-Act world, must reflect what the market would actually do. An investor, it was submitted, will pay a percentage (usually between 25% and 50%) of the anticipated premium that the tenant might pay for the grant of an extended lease. In this case, 40% was considered appropriate in all the circumstances.[13]Mr Asbury is a chartered surveyor and, at the time he prepared his report, was an Associate Partner in Allsop & Co, Surveyors and Auctioneers, based at their Knightsbridge office. By the date of the hearing he had become a director of Stiles Harold Williams. He 6 provided an opinion as to the market for ground rent investments and the method by which investors value them.[14]He said that in the no-Act world, which in reality was little different in market terms from the world in which the Act applies, there are three options open to a purchaser of a reversion:(1) waiting to obtain vacant possession at the end of the term and then selling a long lease in the open market,(2) Negotiating a new lease with the existing tenant or(3) letting the flat at the end of the term. As to the first, he said that he and Mr Curran agreed this was the least likely option. Not only would it tie up significant amounts of capital for a long time, there was always the risk that the tenant might hold over at the end of the term. If the tenant did hold over, the landlord could charge a market rent, but again that would not be the most attractive option. It was Mr Asbury’s view that option 2, selling a new lease to the current occupier, was the one that investors saw as the most likely. However, not only was it impossible for the prospective purchaser to anticipate which of these scenarios would actually occur, but he would not be able to anticipate at what stage, if option 2 was the most likely outcome, a deal could be done with the lessee.[15]Whilst acknowledging that the traditional way of calculating the landlord’s diminution in value under the Act is the term and reversion approach, Mr Asbury said that in formulating his bid for the interest an investor does not perform the technical and complex mathematical exercise that valuers do. He will take a much more robust or crude approach, particularly as with term and reversion it must be assumed that vacant possession will be achieved at the end of the term – and this is by no means guaranteed. Because of that uncertainty, and the fact that the date upon which he might treat with the lessee is unknown, an investor will not offer a multiplier of the ground rent income together with 100% of the landlord’s half of the marriage value. He will need to allow a substantial discount for risk – otherwise he will make no profit. In his experience investors pay between 25% and 50% of their share of the marriage value. Although there is an argument that as the remaining term gets shorter, the likelihood of a tenant wishing to negotiate an extension becomes greater, hence an investor being prepared to pay more, there is to be considered the fact that historically, negotiations for new or extended leases can become extremely tortuous when the tenant has to find such a significant proportion of the vacant possession value. Thus, it is not safe to assume that the shorter the reversion is, the investor will necessarily pay a high percentage.[16]Mr Asbury said that the fact that the landlord had purchased the long-leasehold interest in the flat, subject to the tenant’s lease, in June 2000 for £42,000 plus £12,000 in respect of service charge arrears (effectively £54,000) supported his contentions. On the basis of Mr Curran’s figures for the value of the existing lease with 6 years unexpired, and the value of the proposed new 96 year lease, Barstow’s purchase represented 31% of the 50% anticipated landlord’s share of marriage value (allowing for adjustments for time). There was, therefore, an allowance for risk that there would not be if the conventional method were used.[17]In cross-examination, Mr Asbury acknowledged that the market for ground rent investments takes place under the background of the Act and that prior to it the tenant’s position was somewhat weaker. He accepted that in instances where there is a long period before reversion the conventional term and reversion approach was often adopted, but where there was only a very short term remaining, such an approach would not allow the purchaser 7 sufficient cushion for risk. That cushion (the percentage of the 50% of marriage value) would decrease as the reversion became shorter, and the element of risk was reduced. Having said that, he admitted that he had never previously advocated this approach before the LVT or the Lands Tribunal, and that it was “quite novel”. It was only when compiling his report, he said, that he had come to the conclusion that the orthodox approach was wrong.[18]Mr Asbury acknowledged that the risk of a tenant holding over at the end of his term was extremely slight, and admitted that he was not aware of any instances where that had happened. It was, he accepted, most unlikely that someone who had been occupying a flat as his own (leasehold) home would countenance paying a market rent under an assured tenancy if there was any realistic opportunity of him extending the lease.[19]Mr Curran is a chartered surveyor and town planner. He was formerly a director of Leasehold Enfranchisement Ltd, a company specialising in leasehold reform matters, and following its merger with Stiles Harold Williams, is now employed by that company. Acknowledging that he had little experience of the market for the sale of ground rents, and none where leases were as short as that pertaining to the subject property, Mr Curran said that he had adopted his valuation methodology following research and discussions/correspondence with individuals and firms that specialise in such work (including Mr Asbury, and his colleague at Allsops, Mr Gary Murphy).[20]In assessing what an investor would pay for the landlord’s current interest, Mr Curran said that the conventional term and reversion approach, used by valuers in negotiating settlements under the Act, would, where the reversion is so short, lead to an artificially high price. That price would not reflect the risks, and with no cast iron guarantees as to whether the tenant would negotiate a lease extension (and if he did, at what time during the remaining term of the lease that deal might be done), and allowances for acquisition costs, there would be insufficient profit to make it worth his while. He said that, having discussed the matter with those who deal with the sale of such interests, the market tended to offer a percentage of the anticipated premium that the lessee would be prepared to pay. His research indicated that that percentage could be anything from 25 to 66 (but normally no more than 50%), depending upon the perceived risks – the percentage getting higher as the reversion drew nearer, and where, for instance, it was known that the tenant was keen to enfranchise.[21]Mr Curran said that, on the basis of the LVT’s figures (arrived at by accepting the conventional term and reversion approach) whereby the premium was determined at £334,500 and the value of the landlord’s interest was £298,000, a purchaser would be paying, by the time transaction costs (including stamp duty) had been taken into account, 92% of a sum that was by no means guaranteed. He said that in reality, the purchaser would not accept a potential profit of only 8% and would require a much more substantial cushion against the risks. It was only if he could be certain that an immediate deal could be done with the tenant that the term and reversion approach might be appropriate. However, the risk of the tenant holding over at the end of the term could not be ignored (although he accepted in cross-examination, that this was unlikely) and the capitalised deferred rental income from such a scenario was substantially less than £298,000. 8[22]The conventional approach, he said, also produced an unsatisfactory outcome for the tenant. The agreed value of the tenant’s current interest was £136,500, and adding this to the proposed premium of £334,500 gave a total of £471,000. By the time the tenant had paid his transaction costs, he would be left with a ‘surplus’ of only about £23,000. Put another way, the premium (at £334,500) could be expressed as a percentage of the uplift in value from the existing to the extended lease (£371,000), ie 90%. However, it is only the joint action of the landlord and tenant that can release the locked in value, and Mr Curran said that in his opinion the tenant’s bargaining power is not adequately reflected by a transaction that leaves him paying 90% of the uplift in value. Furthermore, he said the LVT’s valuation of the landlord’s interest was radically out of line with the price that was paid for the overriding lease (effectively £54,000) in 2000.[23]Mr Curran said that the best evidence he had of the likely premium to be obtained for a lease extension was an extension to 99 years (from 8.5 years) on the first floor flat at 84 Cornwall Gardens in September 1999. Although not involved in that transaction, and having received no confirmation as to the terms from either the landlord or the tenant, he understood the premium to have been £150,000 at an initial ground rent of £200 pa. That flat was slightly smaller than the subject (at 869 sq ft) and was in a block where all the flats had been sold on long leases, whereas at 70 Cornwall Gardens, two of the upper floor flats were on short leases, and one immediately above the subject flat was derelict and in need of substantial refurbishment. Allowing for the possible disturbance that could be caused to the occupier of the subject flat whilst those works were being carried out and for tenant mix generally, together with adjustment for time, lack of ground rent at the subject, and its shorter lease (for which a 5% increase would, he thought, be appropriate), led Mr Curran to assess the premium for the subject flat at £246,000. Assuming an investor would be prepared to pay about 40% of this, in all the circumstances, he assessed the value of the landlord’s interest at £100,000. That figure included an allowance for the fact that, in Mr Curran’s opinion, there was a risk that the tenant may hold over at the expiry of his lease.[24]Mr Curran then referred to his analyses of two lease extensions he had recently negotiated on behalf of lessees under the Act at flats 14 and 19, 47-50 Cornwall Gardens. On flat 14, a second floor 2 bedroom flat of 945 sq ft, a price of £238,600 was agreed where there was an estimated long lease value (90 years) of £400,000. The price therefore amounted to 59% of the long lease value. However, he acknowledged that the landlord’s valuer had calculated the premium (at a suggested £263,821) on the conventional basis. The landlord’s valuer had calculated the diminution in value of the freeholder’s interest at £242,642 but Mr Curran said that he did not accept that, in the market, an investor would pay 92% of the premium he anticipated he might obtain. On flat 19, the premium amounted to 57% of the extended lease value.[25]In cross-examination, Mr Curran accepted that he had increased his opinion of the value of the landlord’s interest from the £60,000 (25% of the 50% of marriage value) he had argued for before the LVT to £100,000 (40%) but could not identify precisely what had led him to that conclusion. 25% was at the bottom of the range that an investor would offer, and 40% was, he said, about midway. A higher percentage would not be appropriate because of the state of 70 Cornwall Gardens as a whole (the upper flats in particular); even £100,000 was a lot to pay for 9 a single investment where there was a perception that the tenant may be difficult to deal with and concern that the tenant might hold over at the end of the lease.[26]In respect of his evidence on the 2 flats at 47-50 Cornwall Gardens, Mr Curran acknowledged that the 57 and 59 per cent figures he referred to were related to the long leasehold value rather than marriage value. He did not accept that, on the basis of those negotiations (which had been carried out on a term and reversion basis), a figure of, say, 58% of his assessed value of the extended lease on the subject flat (£507,500) would give a value of the landlord’s interest of £294,000 rather than the £100,000 he was promulgating. He said that in the 47-50 Cornwall Gardens negotiations, the landlord’s agent had not accepted his arguments for a value predicated on the basis being argued for in this case. In response to a question from me, Mr Curran accepted that if his figure of £100,000 were adopted, the lessee would effectively be obtaining his flat for less than 50% (in proportionate terms) of what other lessees have paid for their flats in similar circumstances.[27]As to the risk of the tenant holding over at the end of the term, although this was not specifically reflected in his valuation, Mr Curran said that, if the landlord’s proposed methodology were to be preferred by the Tribunal, the figure of 10% that had been adopted by the LVT would be appropriate. On the basis that it was unlikely the market rent under an assured tenancy would exceed the limit under the Act of £25,000 pa (because the value of tenant’s improvements, under section 14(2)(b) of the Housing Act 1988, are to be excluded), there was a possibility that a tenant who had not negotiated a new lease by the end of the term would wish to remain in occupation. This would be a negotiating stance to either obtain a payment from the landlord for obtaining possession, or to buy a new lease at a discount.[28]Mrs Ellis is a chartered surveyor, and a partner in Langley Taylor, Chartered Surveyors of London WC2. She specialises in leasehold enfranchisement matters, is co-author of the chapters in Statutory Valuations (1998) dealing with the enfranchisement of houses and flats, and is a member of LEASE, the Leasehold Enfranchisement Advisory Service which is an independent agency funded by government grant and which provides free advice to interested parties on the provisions and procedures of the relevant legislation.[29]In assessing the diminution in value of the landlord’s interest, Mrs Ellis adopted the conventional term and reversion method, saying that that is the approach taken by valuers, and most parties to such transactions will be professionally advised by them. Based upon her assessment of the value of the new 96 year lease at £670,000 (with an additional £10,000 for a lease of over 900 years), the agreed value of the lessees current interest at £136,500 and a 7% deferment rate, her valuation of the landlord's current interest became £445,844. No allowance was made for risk as to the tenant holding over, Mrs Ellis saying that not only was it likely that the market rent would be more than £25,000 pa (preventing a tenant from claiming an assured tenancy), but even if he could, he would be unlikely to take it up.[30]I consider the valuation of the new leasehold interest later but as far as her adoption of a 7% yield is concerned, Mrs Ellis produced a schedule of settlements in Cornwall Gardens (some of which had been negotiated with Mr Curran), all but one of which showed a yield of that amount. The calculations in a number, but not all, of the settlements were agreed between 10 valuers. Mrs Ellis also produced details of recent LVT decisions where 7% was either adopted or agreed. The appellant, who was not relying upon this method of valuation, raised no particular issue with that figure, and I am satisfied that it is correct.[31]In defending her use of the conventional valuation method, Mrs Ellis said that the only difference between the no-Act and the Act world was that in the Act world the tenant has no right to claim a new lease, so there is every likelihood that, if the tenant does not approach the landlord to negotiate an extension, he will give up possession at the end of the term (assuming no right to hold over). That is the only aspect that has to be ignored by the prospective purchaser, all other possibilities or likelihoods falling to be considered in the valuation. According to Mrs Ellis’s valuation, a purchaser would pay 90% of the anticipated premium in a short lease situation such as this, and she did not agree with the appellant’s arguments that he would require a very much more significant profit. If (as was by no means guaranteed) the purchaser could negotiate a new lease with the tenant straight away, he would be getting a 10% return ‘overnight’ whereas average returns on investments at the moment was 5% or less. Even if the purchaser had to wait until much nearer the end of the lease to do a deal, or indeed, until vacant possession was achieved, the value of his interest was rising so rapidly as to make it a very attractive investment at that price.[32]The buyers who seek the sort of returns that Mr Curran and Mr Asbury had referred to were those buying multiple properties or blocks through ground rent brokers or at auction, Mrs Ellis said, and where normally the reversions are considerably longer. Where there is only a very short term remaining, the purchaser will be satisfied with a much smaller return – after all, she said, he was looking, in this instance, at the potential to achieve £680,000 in only 6 years. If the purchaser was able to treat with the tenant in the interim, all well and good, but that was by no means guaranteed. Mrs Ellis did not agree with the suggestion that purchasers of investments such as this were after a quick return on their capital; there were plenty of “kind grandfathers” who were happy to tie up large sums for considerable period of time where the investment return is potentially much more attractive than was available in other markets.[33]Turning to another aspect of her valuation of the headlessee’s current interest, Mrs Ellis explained why she had assumed that a purchaser would anticipate an annual service charge payable of £1,600 rather than the £1,200 pa adopted by the LVT. Referring to the service charge accounts for 2001 and the estimates for 2002, and considering the need for a sinking fund towards exceptional or periodic expenditure, she thought that a purchaser would forecast expenditure of £1,600 pa – the adopted £1,200 being unrealistically low. On the basis that he could only recover £75 pa for the 6 years before full recovery could be written into a new lease, that left a profit rent of -£1,525pa. Capitalised, this became -£7,269. Conclusion[34]Dealing shortly with this latter point, Mrs Ellis’s estimate regarding the allowance for service charge appears, on the strength of the evidence she produced, to be entirely reasonable, and I accept it. It only makes a very marginal difference to the overall valuation. As to the principal issue, the relevant part of part II to Schedule 13 to the Act states: 11 Premium payable by tenant[2]The premium payable by the tenant in respect of the grant of a new lease shall be the aggregate of:(a) the diminution in value of the landlord’s interest in the tenant’s flat as determined in accordance with paragraph 3,(b) the landlord’s share of the marriage value as determined in accordance with paragraph 4, and(c) any amount of compensation payable to the landlord under paragraph 5 Diminution in value of landlord’s interest[3](1) The diminution in value of the landlord’s interest is the difference between – (a) the value of the landlord’s interest in the tenant’s flat prior to the grant of the new lease, and (b) the value of his interest in the flat once the new lease is granted(2) Subject to the provisions of this paragraph, the value of any such interest of the landlord is as mentioned in sub-paragraph (1)(a) or (b) is the amount which at [the relevant date] that interest might be expected to realise if sold in the open market by a willing seller (with [neither the tenant nor any owner of an intermediate leasehold interest] buying or seeking to buy) on the following assumptions: (a) on the assumption that the vendor is selling for an estate in fee simple or (as the case may be) such other interest as is held by the landlord, subject to the relevant lease and any intermediate leasehold interests; (b) on the assumption that Chapter 1 and this Chapter confer no right to acquire any interest in any premises containing the tenant’s flat or to acquire any new lease; (c) on the assumption that any increase in value of the flat which is attributable to an improvement carried out at his own expense by the tenant or by any predecessor in title is to be disregarded; and (d) …….[35]It was clear from their evidence that both Mr Curran and Mr Asbury were attempting to advocate an untried and untested approach to determining the diminution in value of the landlords from that which has built up by convention ever since the Act was enacted. Indeed, Mr Asbury admitted in cross-examination that he had never before undertaken a valuation under the Act in this way, and that his approach was entirely novel. He said that he had been asked to provide an opinion as to the way the market operates, and how purchasers formulate their bids, but it was apparent from his report that he was referring, in the main, to the approach that dealers and investors adopt when bidding for portfolios at auction or through ground rent 12 brokers. Mr Asbury said that it was only whilst compiling his report that he came to the conclusion that the received valuation approach was wrong.[36]I am not persuaded by Mr Curran’s evidence. Firstly he referred to the premium paid for a lease extension on the first floor flat at 84 Cornwall Gardens. There, the tenant had paid a premium of £150,000 and carrying out a comparative analysis Mr Curran concluded that an appropriate premium for the subject flat would be £246,000. However, he then went on to try and persuade me that, in the market, a purchaser would only pay 40% of this. Not only would that result in the purchaser potentially gaining nearly £150,000 over and above his share of the marriage value to, as he said, reflect risk but it would mean that the tenant would be acquiring the flat at a figure, in comparative terms, 60% below that which was paid in the comparable case. If Mr Curran’s arguments were right, it would mean that virtually all tenants who have negotiated long leases under the Act (where advised by valuers using the conventional approach) have overpaid by very substantial amounts.[37]Furthermore, Mr Curran’s use of the lease extensions at flats 14 and 19, 47-50 Cornwall Gardens in no way support his contentions. Whereas he was initially arguing for between 25 and a maximum of 66% of the anticipated premium (and in this particular case, 40%), in these instances the prices paid amounted to between 57 and 59% of the value of the extended lease. 58% of Mr Curran’s estimate of the value of the extended lease in this case (£507,500) is £294,350. 40% of the anticipated premium in, for example, flat 14 (£263,821 x 40%) amounts to £105,000 but that is nowhere near the figure that Mr Curran agreed on behalf of the tenant.[38]There is, in my view, no evidence to support the appellant’s approach to the valuation of the landlord’s interest, and I can see no reason to depart from the conventional methodology as advanced by the respondent. It is that method that I adopt and, as I have said, I accept Mrs Ellis’s arguments for a deferment rate of 7% and her evidence relating to the matter of the service charge. As to the risk of a tenant holding over at the end of the term, I am inclined to agree with Mrs Ellis that a purchaser would be unlikely to reduce his bid as he would not perceive such a risk as anything more than minimal. Even if the rental value was less than £25,000 pa it would only be very marginally less (on the basis of the rental evidence that Mrs Ellis provided) and that would represent a 5% return on the basis of the LVT’s valuation figure of £507,500. As the rent can be increased annually, the threshold would very soon be reached, and possession could then be obtained. Also, I am mindful of Mr Asbury’s comment that he had never come across such a hold-over situation occurring.[39]I now turn to the evidence on the value of the extended lease. Tenant’s Interest Post Enfranchisement[40]Mr Curran said that he had looked at unimproved comparables in order to determine the value of the subject flat to exclude any value attributable to tenant’s improvements. He was aware that Mr Capelo had undertaken extensive modernisation and improvement works since he acquired the leasehold interest over 15 years ago, and those had included the removal of part of the kitchen that had formerly encroached into the main reception room. Hence the living 13 room was now larger, and of a rectangular shape, but the kitchen was smaller than it had been. However, the kitchen had been fully fitted with full height units, oven, hob and other appliances and was, he said, still of sufficient size for such a flat. The bathroom had also been fully refitted and extensive built in wardrobes had been provided in the main bedroom. The partition that had originally created a separate second bedroom, and that had been removed to provide a ‘through’ study area could, he said, easily be reinstated. He had assumed the flat to be in unmodernised and unimproved condition, but in a satisfactory state of repair at the valuation date.[41]In cross-examination he said that he did not disagree to any great extent with Mrs Ellis’s valuation of £680,000 if the flat were in its existing, improved condition. He had not specifically attributed c.£160,000 to the improvements – rather he had compared it with unimproved flats which were, in his view, in similar condition to how he imagined the subject flat had been.[42]There were two comparables upon which he principally relied. The raised ground floor flat at 70 Cornwall Gardens, immediately below the subject flat and extending to 970 sq ft, had been sold in June 2000 at £312,500. The purchaser had been obliged to pay service charge arrears of £12,000, effectively bringing the price up to £324,500. Making a number of adjustments including a 16.6% increase for the rise in market between the sale date and the valuation date of the subject property, and an upwards adjustment of 17.5% (agreed) for a first floor flat, he arrived at a comparable figure for the subject flat of £494,500 (without making any allowance for the mezzanine boiler room which, he said, would add little if any value.[43]The second comparable was flat 4 at 85 Cromwell Gardens, a 1st floor flat of 916 sq ft sold unmodernised on a 71 year lease in April 2001 at £500,000. Making adjustments for time, lease length, difference in size, the fact that 85 Cornwall Gardens was all long leases, and had a better tenant mix and better views to the rear, gave a value for the subject flat of £516,646. Taking an average between these two resulted in a figure of £505,000 – but, as he had said, the LVT’s determination at £507,500 was not being disputed.[44]Mrs Ellis’s valuation amounted to £670,000 and was based principally upon an analysis of comparables that had been modernised. She made a nominal deduction for the value of the improvements that had been carried out by Mr Capelo in the sum of £10,000. In her view, under the terms of the underlease, the lessee is obliged to maintain and repair the services in the flat and the fixtures and fittings. Therefore, any works other than the agreed improvements (the full height and width wardrobes in the main bedroom and the shelving in the newly created study area) fall into the category of repairs and renewals, and are thus not to be excluded in the valuation. In cross-examination on this matter, Mrs Ellis said that whilst she accepted that the market would see the flat as requiring modernisation in the state it was understood to be when Mr Capelo took the lease, she believed he had only spent a total of £45,000 on the works 15 years ago (so the kitchen fittings, for instance, could not be considered new). Also, it was her view that the removal of the partition and the subsequent loss of a separate second bedroom and the reduction in the size of the kitchen were detrimental factors that a purchaser would take into account. 14[45]Turning to the comparables, Mrs Ellis said that the two sales principally relied upon by Mr Curran were of flats which must have been in poor condition. As to the ground floor flat at 70 Cornwall Gardens, she said it was sold again in May 2001 after having been modernised at £535,000. After allowing adjustments for time, and the fact that she accepted the subject flat was not being valued to ‘as new’ condition, she calculated the value of improvements at about £210,000 or £217 per sq ft. Similarly, the first floor flat 4 at 85 Cornwall Gardens which also, in addition to the normal adjustments required account to be taken of the fact that it was a 71 year lease, was sold modernised in July 2002 for £695,000. In that case she calculated the value of the improvements at £160 per sq ft.[46]Taking these analyses into consideration, she said she adopted £180 per sq ft as the value effect of improvements, but reduced this by 10% (£18) to allow for the new fixtures and fittings. These figures were used in her analyses of 3 first floor flats (including flat 4 at 85 - both sales), the ground floor flat at 70 (sale after modernisation) and 1 second floor flat. As an example, the post modernisation sale of flat 4 at 85 Cornwall Gardens was analysed thus: GIA 916 sq ft. Lease length 70.67 years. Price £695,000 Adjustment for lease length (+96%) £737,230 Adjustment for time (Feb – July 2002) 94.18% £694,323 Adjustment for floor (1st) Nil Adjustment for condition (£18 x 916 sq ft) - £16,488 Adjustment for location/amenity Nil Adjustment for size (From 2 bed 916 sq ft, say +5%) +£34,716 Total adjustments £+18,228 Finally adjusted figure £712,551[47]The adjusted figures from all her comparables became: Flat 5 @ 38 (1st floor , 781 sq ft sold April 2002) £700,508 Flat 4 @ 85 (July 2002 sale as above) £712,551 5 @ 6 (1st floor, 538 sq ft sold Feb 2002) £660,250 Flat 3 @ 58 (2nd floor, 743 sq ft sold Sept 2001) £639,638 Flat 4 @ 85 (May 2001 sale unmodernised) £711,741 GF flat @ 70 (971 sq ft, sold modernised May 2001) £648,120 From these figures, Mrs Ellis said the adoption of a figure of £675,000 for a very long leasehold interest (900 years plus, or a share of the freehold) in the subject flat at the valuation date would be appropriate. To this she added £15,000 for the mezzanine room, less £10,000 for improvements as per her evidence to give a net value for a long lease of £680,000. For the proposed new lease of 96 years, she felt a reduction of about 1.5% (£10,000) was appropriate, giving a value of £670,000 to be incorporated in the enfranchisement valuation. 15 Conclusion[48]I have no quarrel with valuing either by reference to unmodernised or to modernised comparables, so long as the inputs and adjustments reflect the reality of the marketplace. In that respect, the resulting figure for the subject flat should be what a purchaser would pay for it assuming it to be offered for sale in the open market by a willing seller, in the condition it was at the valuation date, ignoring the value of any improvements carried out by the tenant or his predecessors in title at his own expense. The recent decision in Fattal v St John Lyon’s Charity (2003) LTLRA/21/2002 (unreported) which was published after the hearing in this case is to the point. That case related to the price to be paid for the freehold of a house under the provisions of the Leasehold Reform Act 1967, and legal arguments were advanced by the appellants to the effect that, in accordance with the wording in section 9(1A)(d) which says that the price shall be “diminished by” the value of the improvements, the valuer was required to start with the value of the house as improved, and thence diminish it by the value of the improvements. Whilst it is a fact that the wording in Schedule 13 Part II para 3(2)(c) refers to an increase in value attributable to tenant’s improvements being disregarded, rather than the price being diminished by the value of the improvements, the principal, in my judgment is the same. I said (at para 121):
“121. The suggestion that there was a statutory obligation restricting the valuer in his analysis to this basis, thus preventing him from considering unimproved comparables, is plainly wrong. What the valuer has to establish in order to apply the provision in (d) is “what its value would have been if the improvement had not been made” (see Lord Hoffman at Shalson para 19 above). How that value is established is clearly a matter of valuation, and the valuer is not constrained by law to adopt a particular method of doing so. Indeed, both Mr Buchanan [the appellants’ expert valuer] and Mr Briant [the respondent’s expert valuer] admitted they adopt either method (described in evidence as valuing from the top down, or from the bottom up) depending upon the circumstances, in enfranchisement valuations.” and at 123: “123. In my view the best evidence of the value that the house would have had if the improvements had not been made would come from recent sales of similar but unimproved houses in a similar location. The value could be assessed just by reference to those unimproved comparables and if the evidence is sufficiently good, no doubt it should be. But in circumstances where there are no, or insufficient, unimproved comparables from which a figure can be derived, there is nothing to stop a valuer resorting to the top-down basis, either as a primary method, or as an additional method in his search for the right answer.”
[49]The real point at issue in this case is not the methodology of analysing comparables, but the value attributable to the works carried out by the tenant, and whether they are to be taken as improvements or repairs and replacements. Once that figure has been established, the effect of using arbitrary adjustments from modernised flats is, by the very nature of the amounts involved, likely to offer more potential for inaccuracies than the more limited adjustments that are necessary in comparing with unmodernised flats, as Mr Curran has done. 16[50]I do not find Mrs Ellis’s arguments for a nominal figure of £10,000 to reflect tenant’s improvements persuasive. Photographs were produced in evidence showing the state of the flat when it was acquired by Mr Capelo, particularly in respect of the kitchen and bathroom. These had very basic fittings including, in the kitchen, a single drainer stainless steel sink and a limited range of the most utilitarian units and shelves. I accept Mr Curran’s view that any prospective purchaser viewing the flat in the condition it was then would consider that it needed complete modernisation and significant improvement. In my judgment, in its current condition (and the condition I am advised it was in at the valuation date), with fully modernised kitchen and bathroom, high quality fittings and tiling and the extensive built in storage in the main bedroom, a purchaser would consider the flat to be modernised and would bid significantly more than he would have done were it in its former condition. Whilst I accept that many purchasers, especially of high value properties in sought after parts of London may well anticipate ‘gutting’ the premises (even to the extent of replacing virtually new equipment in order to satisfy their own personal tastes), the flat, in my opinion, with the benefit of the improvements that have been carried out, can fairly be described as modernised (and thus comparable with the flats referred to by Mrs Ellis), whereas, in its former state, it certainly was not. I do not accept that the works that have been effected can accurately be described as repairs and replacements, and therefore attach more weight to Mr Curran’s comparables.[51]Mrs Ellis attributed £160 per square foot to take account of improvements, and, looking at flat 4 at 85 Cromwell Gardens, this would reduce the analysis of the modernised sale, on her basis to £582,479: + GIA 916 sq ft. Lease length 70.67 years. Price £695,000 Adjustment for lease length (+6%) £737,230 Adjustment for time (Feb – July 2002) 94.18% £694,323 Adjustment for floor (1st) Nil Adjustment for condition (£160 x 916 sq ft) - £146,560 Adjustment for location/amenity Nil Adjustment for size (From 2 bed 916 sq ft, say +5%) +£34,716 Total adjustments -£111,844 Finally adjusted figure £582,479[52]On the same basis, her analysis of the modernised sale of the ground floor flat at 70 would become £414,433. As I have said, making large adjustments from modernised properties allows potential for inaccuracies, and this is evident from the re-calculations that I have shown. Mrs Ellis referred to the cost of the modernisation and improvement works that had been effected by the appellant (which in today’s money would be substantially more), but I do not see that this assists her case. It is the value of the improvements that is to be disregarded, not the cost of them, and it is not unreasonable to expect that the increase in value attributable to improvements will be, and usually is, significantly more than the cost.[53]On balance, I am satisfied that Mr Curran’s valuation of the subject flat more fairly reflects the price that would be achieved if it were sold unimproved at the valuation date, and see no 17 reason, therefore, to differ from the LVT’s valuation of £507,500. As to Mrs Ellis’s argument that there should be a £10,000 reduction to reflect a 96 year lease, rather than one in excess of 900 years, or where there is a share of the freehold, I am doubtful as to whether this would, in fact, be the case. She produced no firm evidence to support her contentions, and there are a plethora of leasehold reform cases where it has been concluded that leases in excess of 80 years do not warrant a discount. Also, this was part of the “new evidence” that had not been before the LVT, and in accordance with what I said at para 11 above, even if substantive evidence had been produced, I would have been reluctant to attach significant weight to it, especially as it only has a very minor impact on the overall result. However, bearing in mind the appellant conceded at the hearing that such a discount would have been appropriate, I adjust the value of the lessee’s interest, in the second part of the valuation, to £497,500.[54]On the basis of my findings, therefore, the enfranchisement price of the subject flat would become £345,939 – say £346,000 (see Lands Tribunal valuation at Appendix 3), but the disparity between this figure, and that found by the LVT is only £11,500 or about 3.5%, a difference that, in my view, is well within the acceptable margins of valuation error. The only aspect of this decision that differs materially from the conclusion that the LVT came to is whether there should be any deduction for the risk of the tenant holding over, and it this factor that produces the largest part of what little difference there is. In that regard, I am mindful of the fact that, as pointed out by Mr Small, the landlord’s former valuer argued for a 10% reduction, and the LVT acquiesced. In this case Mrs Ellis, as the respondent’s replacement valuer, expressed her own professional opinion and said there should be no reduction. On this aspect, in agreeing with her, I accept that she may well have differing views and is entitled to express them. The appellant at this hearing did not specifically reflect such an allowance in his valuation but simply said, in cross-examination, that if the landlord’s methodology were adopted, “such a discount would be appropriate”. In the circumstances, I find I cannot conclude that the appellant has discharged the burden of proof that the LVT was wrong to determine as it did, on the evidence before it, either in respect of that constituent part or on the valuation as a whole.[55]In my judgment, even if the LVT had been wrong on the evidence it was considering, and I was satisfied that the burden of proof had been discharged by the appellant, the point at issue was a matter of valuation opinion, and, as I have said, the difference between my findings and those of the LVT are so small as to be well within an acceptable margin of valuation error. As such, it would be wrong to upset that decision. My finding on the discount point was, of course, a new one that was not considered before the LVT.[56]I therefore dismiss both the appeal and cross-appeal, and confirm the enfranchisement price for the First Floor Flat, 70 Cornwall Gardens, London, SW74BA at £334,500.[57]This concludes my decision on the substantive issues in this appeal. The decision will take effect when the question of costs has been resolved, and a letter is enclosed setting out the procedure for written submissions on costs. 18 DATED 21 January 2004 (Signed) P R Francis FRICS ADDENDUM ON COSTS[58]Submissions on costs have been received. The appellant suggested that, in all the circumstances, there should be no order as to costs and the respondent concurred. I therefore determine that there shall be no order for costs. DATED 16 February 2004 (Signed) P R Francis FRICS 19 LRA/31/2002 Appendix 1 Appellant’s Valuation First Floor Flat, 70 Cornwall Gardens, London SW74BA Diminution in value of Landlord’s interest Diminution in value £100,000 Marriage Value Value after lease extension Tenant £507,500 Landlord Nil Total £507,500 Value before lease extension Tenant £136,500 Landlord £100,000 Total £236,500 Marriage Value £271,000 Marriage Value share 50/50 £135,500 Diminution in landlord’s interest £100,000 Compensation for other losses £ 0 Total Premium for lease extension £235,500 T J Curran 20 LRA/31/2002 Appendix 2 Landlord’s Valuation First Floor Flat, 70 Cornwall Gardens, London, SW7 4BA Diminution in value of Head Lessee’s Interest Term £ £ £ Rent receivable 50 Service Charge receivable 25 Total receivable 75 Service Charge payable 1,600 Profit rent -1,525 YP 6 years @ 7% 4.7665 - 7,629 Reversion Capital Value 680,000 PV after 6 years @ 7% 0.66634 453,113 445,844 Marriage Value After Marriage Headlessee’s interest Nil Lessee’s interest 670,000 670,000 Before Marriage Headlessee’s interest 445,844 Lessee’s interest 136,500 582,344 Gain on marriage of interests 87,656 Vendor’s share at 50% 43,828 Lease extension price 489,672 Say 490,000 J Ellis LRA/31/2002 21 Appendix 3 Lands Tribunal Valuation First Floor Flat, 70 Cornwall Gardens, London, SW7 4BA Diminution in value of head-lessee’s interest Term £ £ £ Rent receivable 50 Service charge receivable 25 Total 75 Service charge payable 1,600 Profit rent -1,525 YP 6 years @ 7% 4.7665 - 7,269 Reversion Capital value 507,500 P V of £1 after 6 years @ 7% 0.6663 338,147 330,878 Vendor’s share of Marriage Value After Marriage Headlessee’s interest Nil Lessee’s interest 497,500 497,500 Before Marriage Headlessee’s interest 330,878 Lessee’s interest 136,500 467,378 Marriage Value 30,122 Vendor’s share @ 50% 15,061 Enfranchisement Price 345,939 Say £346,000 22