Section 5 Freehold - Selling a Freehold Interest in Flats

If you're a freeholder and considering selling a freehold interest in flats, you'll firstly want to get a RICS freehold valuer to give you an up-to-date valuation of what your interest is worth.

Then, you must - with a few exceptions discussed below - serve a Section 5 Freehold Notice on qualifying tenants (explained below) which gives them the option to buy that interest on the terms set out in the Notice. 

This is known as the Right of First Refusal. Selling a freehold is a technical area of law so click here to ask us a question if you need help.

If you do have to offer a right of first refusal to the leaseholders, you:

It's a criminal offence for you to breach these legal obligations without reasonable excuse. If you dispose of your interest without providing the Right of First Refusal, the qualifying tenants can serve a notice on a new owner demanding details of the transaction, including the price paid. They can then take action to force the new owner to sell to them at the price they paid.

This article considers:

Naturally you need firstly to have an expert RICS valuer give you an appropriate up-to-date freehold valuation for your flats; you'll either need it for your open market sale (and right of first refusal notice) to get an accurate estimate of what a competitive price in current market conditions is or to gauge whether a successful bid at an auction (more below) is a fair reflection of your property's value in a similar way.

You can find out much about what's involved here - Freehold Valuation for Collective Enfranchisement

You don't have to offer a right of first refusal when:

 

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What is the Right of First Refusal process?

Overview

• Essentially you serve a Section 5 Freehold Notice on your leaseholders, giving them the opportunity to buy the freehold from you on the terms set out in the notice (price etc.).
• If a majority (over 50%) of your leaseholders wish to acquire your freehold on those terms, then that majority must serve a Counter Notice on you to that effect within the time limits set out in the Notice. The Counter Notice must contain certain essential information.
• If the Counter Notice is not served or is served late, you are free to sell the freehold to anyone else within the following 12 months, provided that the terms are no less favourable than those set out in the Section 5 Notice.
• If a Counter Notice is served by a sufficient majority of leaseholders, they then have a further period within which they can, if they wish, form a company to purchase the freehold.
• The Landlord and Tenant Act 1987 sets down other timetables relating to the drafting and preparation of documents leading through to completion. If the leaseholders do not enter into a binding contract to acquire the freehold with a set time period from when the contract for sale is issued, they will be taken to have withdrawn and you are free to sell to someone else.
• The leaseholders don't normally have to pay your costs, unless it is a specific term of the deal you offer in the Section 5 Notice. However, there is an exception if the leaseholders withdraw, or are taken to have withdrawn, after a set point in the process in which event they would be liable for your costs after that point.
• If you opt to sell your freehold interest via public auction, there's a separate procedure to follow (see below).
• If you don't comply with your obligations to offer the leaseholders the right of first refusal and sell to a third party, you're committing a criminal offence for which you are subject to an unlimited fine. In addition, the leaseholders have the right to acquire the freehold in these circumstances from the third party who bought it, on the same terms.

Qualifying conditions

• Your building must be in some way separate in the vertical sense; i.e. it can be a detached or a semi-detached building but not floors of flats above a shop.
• The building must contain at least 2 flats.
• No more than 50% of the premises can be in non-residential use.
• More than 50% of the flats in the premises must be held by ‘qualifying tenants'.

Disposals

• the grant of single tenancies
• putting up your interest as security for a mortgage
• bankruptcy sale to a receiver, liquidator or trustee
• disposal to a company associated with you
• sales to the Crown or Government departments

Types of Section 5 Notice

• Section 5A - simple sale by contract; and
• Section 5B – sale by public auction

Serving the Notice

• You've complied with your legal obligations if you serve your Section 5 Freehold Notice on not less than 90% of the qualifying tenants.
• If there's less than 10 qualifying tenants, you have to serve your notice on all but one of them - so if there's only two tenants, serving it on one will do.
• You also have to serve your offer notice on any established Right to Manage company.
• If you have to serve your notice to different tenants at different times, the final acceptance date becomes that on the last notice served.

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What is the procedure for selling on the open market (Section 5A)?

• the terms of the proposed disposal, that is the property and the interest being disposed of (the freehold, a headlease etc), the price and any deposit required;
• a statement that the notice constitutes an offer by you to enter into a contract on the terms set out in the notice;
• the date by which the offer may be accepted (the initial period) – this must not be less than two months from the date of the notice; and
• a date for the nomination by the tenants of a purchaser (the nominated person) (click to find out more), which must not be less than a further two months.

• The price you set is the offer notice isn't negotiable unless you decide to make it so and can't be challenged at a First-tier Tribunal (Property Chamber): it's 'take it or leave it', although you are bound to sell to other parties, if the qualifying tenants don't take the offer up, on the same terms for 12 months.
• The qualifying tenants must be a majority of qualifying tenants throughout the process - if anyone drops out, the nominated person has to tell you and you're then free to sell on the open market as before, subject to doing so on the same terms for one year.
• Either yourself or the nominated person can withdraw at any time up to exchange of contracts.
• If you don't send or exchange contracts and subject to the time limits, it's deemed that you've withdrawn, which means you then can't sell your interest for 12 months. Similarly if the nominated person doesn't return the signed contract, then it's deemed that they've withdrawn and you're free to sell on the open market on the same terms.
• If either you or the nominated person withdraws or is deemed to have withdrawn after the first 4 weeks of the nomination period specified in the offer notice, then the withdrawing party is liable for the other side's costs. There's no liability for costs if withdrawal occurs within the first 4 weeks.

If you want to take the auction path to selling your interest you have to serve the appropriate notice between 4 and 6 months before the auction date.

Your notice has to include the following:

You don't actually have to state the date of the auction in the notice although it's sensible to do so. If you don't you have to serve a further notice on the requisite majority, at least 28 days before the auction, which gives the date, time and place of the auction.

Your requisite majority of qualifying tenants have to accept the offer within the initial period you've set in your notice, unless you agree a longer period and subsequently have to notify you of the nominated person within the 28-day further period.

At least 28 days before the auction date, the nominated person has to send you a notice stating that they want to continue with the procedure. If they don't formally advise you of this intent via notice, then you can deem that the acceptance is withdrawn.

The tenants don't have to attend the actual auction and they're not required to make a bid; in fact, to do so will only drive up the price. Should a successful bid be accepted, the landlord has to send a copy of the contract to the nominated person within 7 days of the auction.

The nominated person then has 28 days to accept the contract and pay any requisite deposit. The overall result of doing so is that the nominated person, not the successful bidder, enters into the contract.

Please note the following:

The notice must include the following:

All timeframes and subsequent procedures follow those of S5A

The notice must include the following:

This could be where the landlord’s disposal is by way of a gift, or perhaps part of a deal with another landlord including its exchange for other land or rights.

The notice must include the usual details and information on the interest and terms of the disposal as required under sections 5A to 5D, whichever is applicable, but, of course, no price or other consideration unless any part of the disposal consists of money.

In addition it must state:

The S8C procedure is rather complex but essentially it provides a right for the requisite majority to acquire the interest from the new owner, after the disposal, as though the landlord had not served the S5 notice. The tenants will have to pay the monetary equivalent of the interest and this is one of the few areas in the right of first refusal where the price may be determined by the Tribunal.