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Landlord and Tenant Act 1987 - don't get caught out by right of first refusal

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When a freehold residential property is sold, the Landlord and Tenant Act 1987 may grant the right of first refusal to tenants of the property, depending on the circumstances. This can introduce significant challenges for landlords and developers, especially as the law regarding which types of properties qualify for, or are exempt from the Act is complex and uncertain.

What does right of first refusal mean?

Tenants’ right of first refusal under the Act means that if you are a landlord intending to sell your freehold premises, and those premises comprise two or more flats held by qualifying tenants, you may first have to offer the sale to the tenants before selling it on the open market or by auction.

When does the Landlord and Tenant Act apply?

For the Act to apply, the following three conditions must be met:

  1. The premises must consist of the whole or part of the building.
  2. The premises must contain two or more flats held by qualifying tenants.
  3. The number of flats in the premises held by qualifying tenants must exceed 50% of the total number of flats contained in the premises.

An important point to note is that the Act does not define what constitutes a building. This can cause difficulties where the property in question is not a straightforward block of flats, but, for example, contains a mixture of residential and non-residential units, multiple buildings or mixed-use schemes.

Case study: Artist Court Collective Limited v Khan

The case of Artist Court Collective Limited v Khan [2015] PRSCS313 perfectly illustrates the consequences of failing to properly take account of the right of first refusal.

The case involved a mixed-use building made up of eight residential flats let on long leases and three commercial units on the ground floor. The freehold owner, a Mr Khan, decided to incorporate a company (SGR) in which he would hold a controlling interest and to transfer the freehold of the property to the company for a sum of £225,000. The company was not a related company (which would result in it falling within one of the disposal exceptions not requiring service of the section 5 notice).  No section 5 notice was served on the tenants. The tenants only became aware of what had taken place when a fish and chip shop was opened in one of the commercial units. This upset the tenants and prompted them to look into their rights.

When the tenants found out about the transfer, they formed a company and served a purchase notice under the Landlord and Tenant Act 1987, requiring the freehold be transferred to their company at the same price SGR had paid to Mr Khan (£225,000). Mr Khan attempted to appease the tenants by transferring the freehold from SGR back to himself at no cost, again without serving notice. The tenants then served a further purchase notice requiring the freehold to be transferred to them at no cost.  

When the case came before the County Court, the judge found in favour of the tenants. As a result Mr Khan was instructed to comply with the tenants’ purchase notice and transfer the freehold of the property to their nominee company without receiving any financial consideration in return.

Mr Khan appealed this decision to the High Court, where his appeal was upheld.  The court considered that on the facts of the case, the second transfer involved SGR as trustee transferring the legal estate in the property to Khan, who was the sole beneficiary. This trust transfer was exempt from the right of first refusal under Section 4(2)(g) of the Landlord and Tenant Act 1987 and did not require the service of the section 5 notice.

This case highlights the importance to landlords and developers of treading very carefully in this uncertain area of law and the potential risks of non-compliance. 

Protect your interests with an experienced property lawyer

Many areas of the law relating to property are complex and uncertain, which is why it is absolutely vital to consult with an experienced property lawyer before moving ahead with any kind of property deal or transaction. The financial penalties for getting it wrong can be significant and even if you ultimately “win”, as Mr Khan did, you can still be left with substantial legal costs to pay. Consulting a specialist property law solicitor before proceeding can save you time, money and a lot of stress.

For more information and advice on the Landlord and Tenant Act 1987, right of first refusal and any other issues relating to property law, please contact us on 020 8422 5678.