19 November 2009
WARNING: Section 106 can damage your financial health

The Council for Mortgage Lenders (CML) has issued guidance that local planning authorities should use a model form section 106 agreement that was prepared by the Department for Communities and Local Government in 2006. But this has a negative effect on property values explains Stephen Illingworth.

The valuation standards from the Royal Institute of Chartered Surveyors (RICS) indicate that where mortgagees are restricted by section 106 agreements in how they can deal with their properties their valuation should be as ‘existing use value for social housing’ (EUV-SH).

EUV-SH assumes that the property will continue to be let at affordable rents for social housing. Because the EUV-SH is lower than the market value it has a negative impact on the value of property.

Section 106 restrictions in the model form mean that the property cannot be sold for market value. Anyone buying property subject to the model form needs to be understand the impact on the value of the property.

EUV-SH is appropriate in secured lending valuations as it assumes that the properties will continue to be let as social housing and that any vacant dwellings will be re-let to tenants in the Registered Provider’s target group rather than sold on the open market.

Therefore, if there are restrictions in the Section 106 agreement that mean the property will always be re-let to tenants in the Registered Provider's target group, then the valuation should be on EUV-SH which will discount the value of the property.

Restrictions

Some mortgage lenders make the assumption that if nominations and restrictions exist these will not be binding on a mortgagee in possession. A market valuation is made on the basis that a potential borrower in possession of the property could raise existing rents after a year to market rent levels. Any unoccupied units could also be sold on the basis of ‘unrestricted’ market value, as opposed to being re-let on existing tenancies. This can, in some instances, lead to as much as a 30 per cent difference between EUV-SH and market value.

CML Guidance

The CML guidance indicates that local authorities should, where possible, use the template section 106 agreement.

However, it goes on to say that where a local planning authority is considering a restrictive clause on a development, particularly on rural exception sites, the authority should discuss this with lenders to assess what the impact will be on the availability of lending for low cost home ownership. This governs whether or not a Registered Provider of social housing (RP) can get the appropriate funding to develop the properties and also in the future be able to use those properties for adequate funding so as to create more affordable housing.

Model form restrictions

The model form provides that the obligation for the housing to be used as affordable housing – that is to say, "subsidised housing that will be available to persons who cannot afford to rent or buy housing generally available on the open market" – will not be binding on any mortgagee of the RP "provided that the chargee shall have first complied with the chargee's duty."

The chargee's duty is to give a certain number of months' prior notice to the local planning authority of its intention to dispose of the property and co-operate with any arrangements that the local planning authority can come up with so as to safeguard the property as affordable housing.

If the local planning authority does not respond to any notice within a certain number of months then the chargee can dispose of the property free of the restrictions. In addition, if the council cannot secure the new arrangements then again the chargee can dispose of the property free of restriction.

The question immediately arises as to whether or not those model form restrictions enable a valuer to value on the basis of market value or EUV-SH.

I do not believe that the restrictions in the model form enable a valuer to value property on the basis of market value, since the “chargee’s duty” may well lead to the property continuing to be let as social housing. This restricts the valuation to an EUV-SH.

The Homes & Community Agency

It should be noted that if a grant has been obtained from the Homes and Communities Agency (HCA) – or previously from the Housing Corporation – then it will have been provided upon condition that if the properties are disposed of the purchaser must provide low cost rental accommodation.

Once it is classified as social housing the property will generally remain as such until disposed of with consent, which must be obtained from the Tenant Services Authority.

The Housing Act 2008 allows the HCA to require that a grant be repaid. This includes an obligation to pay a sum which takes into account increases in market value. Therefore, it is important for mortgagees to realise that they need to comply with section 106 agreement issues and have regard to the terms of any financial assistance provided by the HCA.

Advice

To enable a valuer to value on the basis of market value there should be no restrictions on a mortgagee. Any section 106 agreement should not provide for any mortgagee to have first complied with the chargee's duty (as set out in the model form) but instead that the obligations as to affordable housing should not be binding on any mortgagee at all.

The model form ensures that such obligations to provide affordable housing are not binding upon tenants who have exercised their right to buy or shared ownership tenants (and any mortgagee of theirs) and any purchaser from a mortgagee of an individual affordable housing unit. However, this does not allow a mortgagee of the RP to sell without restriction, since it has to comply with the chargee’s duty.

Those acting for RPs should not follow the model form but provide for a clear confirmation in any section 106 agreement that the affordable housing provisions do not bind any chargee at all. They should delete any reference to prior compliance with the chargee's duty as set out in the model form.

Proposed section 106 agreements should be reviewed to ensure that the wording does not have an adverse impact upon valuation. Existing section 106 agreements should be reviewed to ensure that valuations can be sustained in the light of the wording of such agreements.

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