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If you are looking to invest in commercial premises; either as a base from which to run your business, or as the start of a property portfolio which you plan to manage and let out to tenants, your two main options are either taking on a lease or buying the freehold of the premises.
You may have been told that purchasing the freehold is the way forward, but what does it mean to own the freehold and how can this be beneficial to you?
Barbara Winnett, a commercial property lawyer at Warners Solicitors in Tonbridge highlights the advantages and disadvantages of owning the freehold.
What is a ‘freehold interest’?
There are many terms to describe this; freehold, fee simple, reversionary interest, but essentially owning the freehold gives you indefinite ownership of the land, unlike a lease which grants you rights over the land for a limited period. A long leasehold interest with a peppercorn rent is similar to a freehold, but a short leasehold interest with a market rent is a very different scenario.
Sale subject to tenants
If you are buying premises which are already tenanted, you should carry out ‘due diligence’ checks on your tenants. You should get copies of all the tenancy agreements, confirmation of when the tenancies expire and confirm that there are no existing breaches of the terms of the lease. In particular you will want confirmation that there are no current arrears of rent, and when the next rent reviews are due, if any.
You will also need to become familiar with your obligations as a landlord under the terms of the lease. These will most likely relate to the maintenance and insurance of the building and the provision of certain services such as lighting and maintenance of any common parts, refuse collection, security and lift maintenance.
Advantages of owning the freehold
Buying a freehold of a commercial property, as opposed to taking a leasehold interest, is generally considered to be a better long term investment. You will, however, ultimately be responsible for the upkeep, maintenance and repair of the building, only receiving a contribution towards your costs from any tenants who are subject to a service charge. Rental income can be used to offset finance repayments.
There is a high initial investment cost for the purchase of freehold premises, including professional fees, lenders fees, search fees and stamp duty land tax. You will be liable for stamp duty land tax at 1 per cent of the purchase price for commercial premises over £150,000 and thereafter on a rising scale of up to 4 per cent of the purchase price for commercial premises over £500,000.
As an investment, you may benefit from a rising market and the increase in the property value, although, conversely you also take the risk that property prices may fall.
A big advantage of owning the freehold is having more flexibility to deal with the property as you like. You can keep the property in a state of repair that suits you rather than the perfect condition that might be required by a landlord under a full repairing lease. However, you may still need to comply with mortgage requirements, obtain the consent of your lender to alterations to the premises and to the grant of leases.
Disadvantages of owning the freehold
Buying the freehold involves a larger capital outlay and finance repayments.
If you are buying for your own use and you outgrow the premises then you will need to consider selling or renting it out. This is unlike taking a lease where you can more easily relocate to bigger premises to suit your needs depending on the terms of the lease. Taking a lease at a rack rental would involve no initial capital payment, but instead a quarterly rental payment.
Owning the freehold of let premises, you will need to factor in the costs of managing tenants and periods where the premises are vacant. You may have to pay business rates and finance interest without any rental income.
Ultimately, your decision should involve careful analysis of your budget, your long term business plans and your intended use of the property. It should also involve a thorough examination of the title and any leases or tenancy agreements to get a full picture of your rights and responsibilities.
For more information and advice on buying the freehold or any other commercial property matter, contact Barbara Winnett, solicitor at Warners Solicitors in Tonbridge on 01732 770660 or email firstname.lastname@example.org
The contents of this article are for the purposes of general awareness only. They do not purport to constitute legal or professional advice. The law may have changed since this article was published. Readers should not act on the basis of the information included and should take appropriate professional advice upon their own particular circumstances.