Tipping the balance: the Government's proposals on mixed-use buildings could have a significant impact on property owners and commercial tenants

In line with the recommendations in the Law Commission's report, the Government proposes the following changes to make it easier for residential leaseholders to buy the freehold of their building:

• Currently, leaseholders cannot ‘collectively enfranchise’ if more than 25% of the floor space in their building, excluding common parts, is used for non-residential purposes. The consultation asks for views on raising the non-residential limit from 25% to 50%. This would mean that residential tenants could potentially buy the freehold of mixed-use buildings (or discrete parts of buildings) which are half residential and half commercial. The tenants of commercial units in a mixed use scheme could then find that their landlord is a company owned by the tenants of the residential units in that scheme. The consultation says that the Government would "expect that those who do exercise their rights will employ the use of a professional managing agent, ensuring the building is managed with the appropriate expertise" but this would not be mandatory.
  
  
• At present, when residential tenants collectively purchase the freehold of their building, the freeholder can call for a long lease of certain units after the leaseholders complete the claim, including units let to non-qualifying tenants. If it chooses to do so, the price that the leaseholders have to pay is reduced, and the freeholder can retain an interest in the property.  The Government is proposing to shift the balance of this position so that the leaseholders can force the freeholder to take this leaseback.  This would mean that the freeholder of a property in which half the units were residential could be compelled to take long leases of non-qualifying units and would thus become both an unwilling landlord of some of the units in the building and an unwilling tenant of a leaseholder-owned purchaser vehicle, as well as potentially receiving a lower sale price for the freehold than they would do under the current rules.

Residential leaseholders are currently able collectively to take over their landlord's management functions in buildings where less than 25% of the floor space is non-residential, through a “Resident Management Company”. The landlord retains its ownership and continues to manage any parts of the building which are occupied by non-commercial tenants or non-qualifying residential tenants. It can also join the management company once the transfer of the management has taken place. The Government's proposals include:

• raising the non-residential limit from 25% to 50%. This would mean that residential leaseholders could exercise this right in mixed-use schemes where half of the internal floor space is occupied for commercial uses. Landlords could then find that some of their building is managed by a management company run by residential tenants who may lack the knowledge or experience to do so properly. The Law Commission recommended in its 2020 report on the right to manage that the Government should make training for leaseholders acting as company directors available free of charge, but this would not be mandatory. 
  
  
• capping the total votes exercisable by landlords who become members of the right to manage company at one-third of the total votes exercisable by qualifying tenants. This is intended to prevent landlords from controlling the management company in buildings where there is a large proportion of non-residential floorspace.

The consultation runs until 22 February. The Government is committed to making it easier for residential tenants to own and/or manage the buildings in which they live. However, should the proposals come into law, investors into mixed use schemes where the commercial element is less than 50% could find themselves with an investment risk they did not foresee. We think it is fair to expect this could impact on valuations and the availability of debt for affected buildings. The consultation states that the Government would welcome responses which explain the possible impacts and unintended consequences arising from any of their proposed changes.