A guide to Overage Provisions
The concept of overage payments is something we are becoming increasingly involved with to help protect our clients, whether it be over the short term or long-term future. As there is a continued shortage of land for various types of development, it puts greater pressure on developers and landowners to make better use of the land, as well as changes to Planning Policy and Local Plans over time that could release land for development that was historically not considered suitable for such purpose. In addition, as further large-scale infrastructure projects are carried out including improvements to transport networks, suddenly, areas that were once less desirable have become more desirable and subsequently more valuable.
An overage arrangement is where a buyer agrees to purchase an asset for a fixed price but then agrees to pay a further payment in the event the asset reaches a pre-determined amount. The event that leads to the further payment is commonly referred to as a “Trigger Event”.
We are increasingly seeing instances for private landowners, where their land may help to unlock a larger and more complex site that might not have otherwise been achievable. In some instances, there will be no alternative planning permission in place, but it is envisaged that the site has a longer-term development opportunity, at which time, had the client kept hold of the site, then it would be worth significantly more.
This highlights the need for good quality local knowledge and advice to have awareness of this and we are increasingly seeing overage provisions drawn into sale contracts.
Overage arrangements exist in many kinds of commercial deals. In land transactions, overage is quite common where land is being sold and the buyer has an intention to develop the land and sell it on at a profit. The value of the land will increase substantially as soon as planning permission is granted. Given this, and also due to the fact that the seller could have gained planning permission itself and sold the land at a higher value to start with, it is only right that the seller shares in any immediate uplift in value once planning permission is secured. However, given the levels of uncertainty and risk involved, this can become contentious.
For example, a buyer could purchase a site which could accommodate up to 100 houses. If planning permission is granted for the construction of 100 houses, then the value would rise significantly and under the overage terms, the Seller would receive a 50% share of the uplift in value which would be payable by the buyer. To counteract this the buyer may only seek to gain planning permission for 50 houses resulting in a lower overage payment to the seller and it could then go on and secure planning permission for 100 houses without having to pay a higher sum. To counteract these types of avoidance mechanisms Land Overage Agreements have developed in such a way so as to catch a Trigger Event every time it occurs over an extended period of time and it is not uncommon for such agreements to be for a period of 25 or 50 years.
When a seller sells land subject to an Overage Agreement it will have two primary concerns. Firstly, to ensure that the terms of the Agreement are clear on the circumstances when the Overage Payment becomes due. Secondly, securing a method whereby if the buyer sells to a third party before the Trigger Event has occurred, that third party is bound by the Overage Terms. This causes a seller difficulty to ensure that the overage terms will be entered into by the new buyer.
The three main methods to try and achieve this are:
- The land restriction - This is the most common form of protection used by sellers to protect an Overage Agreement. This method places a restriction on the land stating that it cannot be transferred unless the third-party buyer enters into a direct contract with the seller stating it will abide by the Overage Agreement.
- The seller’s mortgage – This method of protection seeks to crystallise the sellers’ unpaid amount into a formal mortgage. A mortgage creates a major interest in land which will automatically bind any third-party buyer of the land, therefore giving a large degree of control over the land. However, this creates difficulty as the lender will want to have priority over any other party.
- Lease instead of sell – On this basis, the seller can grant a long lease to the proposed buyer on terms that the overage becomes payable if the buyer obtains planning permission and in return, grant the buyer a lease at a nominal rent where the terms of the overage clause become a tenant obligation.
As Overage provisions become increasingly important, this reiterates the need for property owners to protect their position when disposing of a property where there are longer-term opportunities for added value to be achieved. Also, where there is a reasonable prospect of obtaining planning permission for development, but it is not clear how much can be developed or whether there is a prospect of incorporating adjoining sites. As we have seen with many charity disposals, forced sale, disputes, etc., this is particularly important for many property owners where there is a justification to show that best value has been achieved. Strettons’ various teams have had active involvement in such matters on a range of transactions.
This blog was taken from our latest Briefing Notes: Issue 94, if you would like to read more commercial and residential briefing notes then click here.