Written evidence submitted by the Association of Residential Managing Agents [LHR 189]
ARMA welcomes the Commons Select Committee inquiry into Leasehold Reform.
My role is that of the Chief Executive Officer of The Association of Residential managing agents (ARMA). ARMA represents 300 managing agents that operate in England and Wales in the residential block management sector. ARMA member firms manage over 50,000 developments and 1.1m units, representing a service charge turnover in excess of £1.2bn per annum.
In summary we would like to make the following points.
If required I am willing to give oral evidence to the Committee.
Yours sincerely
Dr Nigel Glen
CEO
Overview
ARMA represents 300 managing agents that operate in England and Wales in the residential block management sector. ARMA member firms manage over 50,000 developments and 1.1m units, representing a service charge turnover in excess of £1.2bn per annum
The sector is highly fragmented, comprising small firms that are usually owner run. Over 80% of ARMA member firms manage fewer than 4,000 units.
The managing agent sector exhibits low profitability with an average EBITDA of 5.5% compared to the ONS Q4 2017 non-finance service company average of 18.2%.
Response to the terms of reference
ARMA welcomes the Committee inquiry and is happy to provide information. The Governments various consultations on aspects of leasehold reform have been well received and I would like to acknowledge the important work being undertaken by both the MHCLG and the Law Commission.
There are instances however where I would ask if the proposals go far enough, and in other instances where I would like to ensure that the long-term implications have been fully considered.
1) Proposal to Regulate managing agents
The regulation of managing agents has been proposed by ARMA for over a decade, In the absence of Government action ARMA introduced a self-regulatory regime in 2015, including a Consumer Charter and Standards for managing agents to abide by. ARMA lost 25% of its membership directly as a result of the introduction of the scheme, but that was felt a price worth paying in order to start to drive up standards in the industry. ARMA membership is now achieved only through a rigorous entry system, requiring significant documentation to be individually reviewed, requisite levels of Insurance to be in place, annual independent third-party accountant reports on the handling of client money and leaseholder testimonials. In addition, ARMA uses RICS as a consultant to audit members every three years.
a) Within the October 2017 Department of Communities and Local Government Call for Evidence entitled “Protecting consumers in the letting and managing agent market”. a managing agent was defined as “A person or company appointed by the owner (or someone operating on their behalf) to manage that property, and their role may include, for instance repairs and maintenance.”. Subsequent talk of regulation refers solely to professional managing agent firms. We believe that the proposed reforms should go further as the purpose of the regulation must be to protect leaseholders regardless of who is managing their block. Regulation should therefore not be restricted to professional managing agents but should be extended to any third party that manages blocks on behalf of leaseholders. This would include self-managing Landlords, Freeholders, Residential Managing Company (RMC) and Right to Manage (RTM) companies, who between them likely manage millions of the 4m leaseholds in England and Wales. The monetary sums involved are significant even for small blocks. The CMA estimated that the average service charge in 2014 was £1,100. A study undertaken by ARMA indicated that reserve funds were on average five times higher in terms of cash held at the bank than service charges. Thus, a small block of only five units that self-managed could have service charges plus reserves of six times the annual service charge i.e. a total of £33,000 held under control. The potential for abuse here is compounded by the fact of the potential absence of Professional Indemnity or Client Money Protection insurance to call upon should misappropriation occur.
b) The proposal is to regulate via individuals acquiring a qualification. There are many details to be worked out such as who in a property management firm requires a qualification (receptionist, service charge accountant, director?), does one size fit all or is a range of qualifications to be provided. Who would provide the qualification(s) and at what cost? The role of the Regulator in this is also unclear – should the same body be Regulator and granter of the qualification? If this is not a Government body does that give an organization a monopoly as in order to earn a living individuals would have to pay whatever price asked for their qualification. What if that organization has rules obliging firms with above a certain percentage of qualified individuals to join its body as that would represent a monopoly. ARMA considers that it would be easier to implement, fairer and cost neutral to the taxpayer if another model is considered. Requiring firms to obtain an annual licence to operate from the Regulator would allow the licence fees to fund the Regulator. A requirement of that licence could be that firms be a member of a Regulator accredited professional body. Costs could be further contained as administration such as Professional Indemnity Insurance, Client Money Protection and a Fit and Proper Person checks could be devolved to those accredited professional bodies. Requiring a certain percentage of staff to be suitably qualified could also be introduced.
2) Effect of removing professional landlords and empowering lay boards
There are two proposals that will effectively remove the attraction for professional landlords to remain within the sector. The first is the abolishment of ground rent and the second the proposal to replace leasehold with commonhold.
Whilst wholeheartedly agreeing that the imposition of onerous ground rents should be abolished the longer-term effect of removing the professional landlord is one that needs to be considered. A direct benefit for managing agents is that by removing professional self-managing landlords there will likely be an increase in the number of properties than require the service of a managing agent, although this may increase costs to leaseholders due to management fees. In the absence of a professional landlord flat owners must either take over the duties of the landlord themselves or contract out to a managing agent. Removing the landlord and converting to self-management is frequently put forward as the only way to effectively manage blocks but to be successful there are pitfalls that will need to be guarded against.
a) The whole purpose of moving towards a structure such as commonhold is to protect the owners of the flats within the developments themselves. By giving residents of blocks the management of their own properties it is highly unlikely that disputes will cease. If we look at current RMCs and RTM’s, which are philosophically similar to commonhold in terms of self-determination, complaints still manifest themselves. They may perhaps reduce in number (are there any studies to substantiate this assertion?), but they are likely to become more personal and entrenched as, for example, instead of a leaseholder being handed over to a debt collector for non-payment of service charges by a faceless third-party landlord, the dispute will now be between people who know each other and live side-by-side. In May 2012 the University of New South Wales conducted a study on strata (the Australian version of commonhold) entitled “Governing the Compact city: The role and effectiveness of strata management”. The report stated that 39% of respondents had experienced problems on coming to agreement on how to run schemes with respect to expenditure. The majority of respondents to the survey of strata owners (75%) indicated that there was some, or significant, cooperation between owners in their scheme. However, a significant minority (18%) said that there was little or no cooperation, and a lack of engagement and apathy of owners was raised as a concern in both the owners and executive committee surveys. By recognizing and accepting that disputes will occur adequate protection for owner occupiers against their own boards can be introduced during the drafting phase of legislation.
b) Recruitment to a commonhold board may also be problematic, particularly post-Grenfell where people are becoming more aware of the problems and liabilities of being a board member. Again, in Australia 37% of executive committees found it difficult to recruit members due to a variety of factors including time and perceived problems with the operation of the scheme. Consideration must be given to what happens when a commonhold board has no directors.
c) A board made up of lay members of the development, meeting monthly or quarterly in their own spare time will be very unlikely to be able to gather in the first instance, let alone as time unfolds and the environment changes, the knowledge required to effectively manage their blocks. Case law changes frequently in the UK via Tribunal and Court decisions. Particularly where a professional managing agent is not employed it will be difficult for such boards to remain contemporary. Regarding the other skills required to run buildings, in the Australian survey of executive committee members, respondents were asked to identify the most important factors that influence the practice of executive committee members, other than the legislation. The most common response was the skills, knowledge and experience of executive committee members and three-quarters (74%) of respondents thought that formal training of executive committee members would be beneficial to them in their committee roles. This is one way in which the industry can try to help this situation by offering training to directors but recognition of the need and the cost and who pays (e.g. service charge) will need to be considered.
Case Study.
A block of 11 flats where the leaseholders own the freehold and the service charge is £50,000 per annum for the whole block. The board is composed of three directors who between them own six of the flats. In a single accounting year the following happened:
1) one director used £4,557.21 of service charge money on employing solicitors to object to the planning permission to convert a neighbouring block from commercial to residential. There was no provision in the lease to collect or spend money on such matters. When challenged the three directors stated that they had held a vote – and with six out of the eleven flats they believed this gave them the mandate to spend as they saw fit.
2) The external façade of the building required attention and Major Works of £30,000 identified. The directors stated they would simply add this to the service charge to collect. When challenged about the requirement for Section 20 consultation this was dismissed on the basis that a vote was all that was required and the three directors had the majority. Eventually the Section 20 process was engaged but only as far as the Part 1 submission. The works were undertaken regardless.
3) One director signed a lease variation gifting another director the right to extend and build upwards above his flat. This only came to light when the signed variation was produced to support the second director’s building plans. A similar development next door sold the same right to build on the open market for nearly £450,000. As the lease variation was legal the only recourse to the other leaseholders would have been via company law regarding loss to minor shareholders, but the cost was prohibitive.
d) The residents board will tend to have a shorter timeframe when looking at items of major expenditure – preferring a “sticking plaster” approach to move the costs further on in time, perhaps beyond what individuals see as their likely occupancy. In the long term this could have serious and unfair consequences on future owners. In the short term this could lead to conflict and disputes. In the Australian study while the majority (58%) of executive committee survey respondents said there had not been any occasions where coming to an agreement regarding the running of their scheme was problematic, a significant minority (39%) said there had been problems. The most common issues resulting in disagreements were those relating to major expenditures, including major repairs. The most common explanations given for these disagreements related to personality clashes and the competing interests of individuals in a scheme. A requirement for long term building investment plans, performed by an independent third party would be one way to allay concerns.
3) The requirement for mandatory Client Money Protection (CMP) schemes for Property Agents
The Government response in April 2018 stated that mandatory CMP would be introduced for property agents. This is a welcome step in protecting the consumer and organisations such as RICS, ARLA and recently the TPO have schemes in place for the lettings sector.
The Government paper only talked about landlords and their tenants i.e. lettings and seems to have excluded block managing agents from requiring CMP. This is an anomaly when one considers that residential block managing agents likely hold far more money in terms of service charge and reserve funds than lettings agents. A survey by ARMA showed that the average managing agent had £1.0m in service charge and £5.2m of reserve funds held on behalf of clients at any one time.
4) The effect of commonhold causing current leaseholders to lose value
The introduction of commonhold, requiring so much investment in terms of people and legislation, would presumably only be worth the effort if it endows a considerable benefit to the new owners.
a) This raises the question as to whether any impact study has been undertaken into the effect that commonhold will have upon the existing stock of 4m leaseholders. Will a two-tier system be introduced, with leaseholders finding their homes losing value due to been seen by the public as a second-class means of home ownership?
b) One answer to a) is to allow the conversion of existing leasehold stock to commonhold. This is not a simple solution and needs to be fully examined before the introduction of commonhold as a mandatory way forward. For example, will 100% leaseholder agreement be required – if so how is this to be achieved particularly where buy-to-rent has been popular? If less than 100% is required will the block be run with a two-tier system combining leaseholders and commonholders? This would increase costs as two separate administration and consultation (e.g. Section 20 for the remaining leaseholders) would be required. If a two-tier system is not the outcome will the leaseholders who did not want to convert be converted regardless? What will be the cost of conversion (assuming there is some revisionary value and/or income stream that will need to be recompensed to the landlord) and who will bear that cost – all flats? Just those that opted to convert in the first place?