Legal report

Overage payments make ground as market stalls

Over the past year we have seen land values drop significantly and private developers have been taking the opportunity to bank land for possible future developments. This leaves private and public sector landowners in a difficult situation in which they are unable to achieve the best price for their land.

For landowners wishing to ensure that they are not short changed, contractual overage arrangements offer an answer. These agreements allow landowners to recover a share in any increased value achieved by a developer following purchase of land and protect their valuers from law suits. Councils in particular have adapted this mechanism and are starting to use it in planning agreements to meet planning requirements without losing out financially.

Projects reviewed at intervals

Under this approach, the first phase of a large development that is not currently viable may be allowed to proceed with reduced affordable housing and community benefits. Using a sliding scale, a proportion of any "lost" benefits is restored as the market recovers and development values improve. As each phase is developed, project viability is retested and any increased value is converted into extra planning gains.

A developer might buy a housing site from a private landowner, who is advised by his valuer to accept an offer of £3 million. The developer then sells the site to a superstore operator for £11 million, effortlessly making £8 million. If an overage agreement is not in place, the vendor's only option is to sue the valuer. A typical overage clause might say that if the land is sold on for more than £4 million, the vendor would be entitled to 50 per cent of the excess.

Overage arrangements typically provide that if a developer gets more dwellings or floor space on a site than originally anticipated, the vendor will receive a planning overage payment over and above the original purchase price. If the developer makes significantly higher revenue than anticipated, the vendor will receive a sales overage payment.

These mechanisms can be adapted and applied to planning agreements. Recent Homes and Communities Agency (HCA) guidance recognises that housing developments may not be currently viable but can still come forward with reduced affordable housing in the early phases provided that subsequent phases include more affordable homes if market conditions and scheme viability improve.

Viability argument accepted

Badnells Pit is the largest allocated housing site in Maidenhead. In granting planning permission last winter, then secretary of state Hazel Blears agreed that given the remediation costs the development was not viable under the Royal Borough of Windsor and Maidenhead's affordable housing and community benefit package. The 400-dwelling scheme was allowed with no affordable housing provision (DCS Number 100-060-592).

The council claimed that a development with no affordable housing would be unsustainable. However, government guidance requires local authorities to take economic viability into account when negotiating planning gains. If the council had considered planning overage, it might have salvaged at least an element of affordable housing.

Under the HCA version, if viability analysis shows that a council's normal requirements for affordable housing cannot be met, a reduced percentage is permitted in the first phase. As subsequent phases are developed, further analyses are carried out. As the market recovers, the affordable housing requirement is progressively restored up to the target requirement in later phases.

One difficulty is that an expensive, time-consuming and uncertain valuation process has to be carried out on several occasions during the development's lifetime. Moreover, it is rare for two valuers to agree on the price of completed houses and predicting construction costs is tricky.

Simpler methods can be applied. A sales overage may prescribe that if sales prices exceed a certain level on a particular phase, affordable housing can be reintroduced on a pro-rata basis in subsequent phases. Alternatively, a house price index can be used as a benchmark for restoring benefits in later phases.

This approach may provide an easily measurable method for councils to avoid mothballing sites, encourage house building and recover an element of community benefits as the market picks up. The alternative may be years of stagnation, housing shortages and costly appeals in which the council is left empty-handed.

Chris Rees is a partner at Davies Arnold Cooper.

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