Senior associate Edward Fairweather discusses the concept of ‘overage’ and the key issues that sellers of land in England and Wales should consider when structuring overage.
What is overage?
‘Overage’, sometimes referred to as ‘clawback’, is generally used to describe the arrangement where a seller sells land on terms that they will receive (in addition to an initial purchase price) a further payment at a later date if further value is realised. This further value would typically be realised through the grant of a new planning permission, or the development of the land.
Historically, overage has often been seen in sales by local authorities and has been linked to statutory duties under the Local Government Act 1972 to obtain the best price that can reasonably be obtained. However, private sellers also continue to use overage not only for ‘anti-embarrassment’ purposes (i.e. to protect against a situation where the buyer makes a large profit by flipping the land or constructing a development that was more valuable than anticipated by the seller) but more often because overage can sometimes be the best way to unlock a negotiation over the sale price.
Overage agreements are generally complex long-term arrangements (often lasting five to 20 years). The seller is trying to anticipate the various methods the buyer may use to realise value over a significant period of time (and link these to payments of overage) which can be a daunting task.
Key considerations for the seller include the following:
What triggers overage?
Overage is often targeted at capturing a share of the increase in value where the buyer obtains a new planning permission for the land. Overage agreements may therefore be drafted so overage is triggered and falls due to the seller on the grant of that planning permission. The seller would need to consider whether this should be a full planning permission or whether an outline planning permission should also trigger overage, and whether further subsequent permissions resulting in additional uplifts in value should also be caught. Similarly, the potential for the buyer to develop under permitted development rights, or in breach of planning, may also need to be considered.
The buyer may be unwilling to agree to make an overage payment on the grant of a planning permission (as, in itself, the grant of a permission does not realise value for the buyer) and is likely to wish to link the overage payment to a sale with the benefit of a new planning permission and/or a specified stage of development being achieved (for example the implementation of the planning permission, practical completion of individual units, or plot sales of completed units).
What are the risks?
There are many possible methods the buyer may use to realise value and, where an overage agreement is entered into, it is likely that the buyer will be looking for a way to structure future sales to avoid triggering that overage. The seller will need to give extensive thought to the trigger events chosen and these should be events that the buyer has a clear interest in achieving.
The case of Renewal Leeds Ltd v Lowry Properties ltd  EWHC 2092 is a lesson that trigger events that seem to clearly benefit the buyer may not be in the buyer’s best interests when overage is taken into consideration. In this case the contract stated that overage would be payable following the sale of the last house on the site but the buyer chose to leave four houses unsold to avoid triggering that overage. Whilst the court did step in to assist the seller in this instance, this is not something that the seller should rely on.
Another example is that, if the buyer is a company, it might be possible to sell the company to a third party rather than sell the land, and therefore avoid paying overage under many types of overage agreement.
As a result of the long duration of many overage agreements, changes in the law or planning policy could occur that were not anticipated by the original overage agreement and interfere with or prevent payment.
Alternatively, insolvency of the buyer or its successors may operate to frustrate overage provisions as was the case in Groveholt Ltd v Hughes, 18 July 2005 EWCA Civ 1191 where the Court of Appeal held that disclaimer of an overage agreement by a liquidator did not allow the claimant to exercise a power of sale under a charge securing overage payments.
It is therefore essential that the seller understands what transactions will trigger overage, what transactions will not, and the additional risk being taken by using overage rather than, for example, a discounted increase in the initial sale price.
How is the overage calculated?
One common approach is a valuation-based approach where an open market valuation is carried out when the overage is triggered. The seller would usually receive a share of this open market value after prior deduction of a base land value and costs of the buyer in procuring the planning permission and/or the development.
The seller will need to give thought to the exact basis on which the property is to be valued, how the base land value is to be calculated (and when it is to be assessed), and what costs should and should not be deducted for the purposes of the overage calculation. The dispute in Walton Homes Ltd v Staffordshire County Council  EWHC 2554 (Ch) centred around how the base land value should be calculated and demonstrates the benefits of obtaining valuation advice before entering into the overage agreement.
Alternatively, overage may be calculated by reference to a share of the sale price the buyer achieves when selling on the property (or part of the property) after prior deduction of a base land value and the buyer’s costs. This is often preferred by the buyer as it decreases its risk where it sells on the land below market value and can also avoid the need for an additional valuation of the land. However, it is more risky for the seller (for example it is possible that the buyer might sell on the land at an undervalue to an associated company, there may be some consideration being received by the buyer that the seller is unaware of, or consideration may be received in non-cash form and require its own valuation) and it may be advisable for a seller to insist on a right to substitute a valuation-based approach where appropriate.
How will you monitor compliance and how are your interests protected?
The seller will also need to give thought to how they will monitor compliance with an overage agreement and protect their interests. Where the buyer is developing and/or selling on the land, there will be an asymmetry of information between the seller and the buyer. Even if obligations requiring full disclosure of all relevant information are included in the overage agreement, it can be very difficult for a seller to tell when a buyer is in breach.
Commonly an obligation to pay overage will be protected by a restriction on the registered title, which can be drafted to require the buyer to demonstrate compliance with various terms of the overage agreement (and provide a deed of covenant binding their successors to the terms of the overage agreement) before a future sale of the property can be registered. However, this may be less effective where overage falls due on grant or implementation of a planning permission. A variety of other methods are also sometimes used to secure overage obligations including charges, leases and guarantees, and each has their own benefits and drawbacks.
The Russell-Cooke real estate team can advise you across a broad range of real estate issues arising in connection with overage and clawback. Edward Fairweather is part of the real estate, planning & construction team, advising on a broad range of commercial property transactions including landlord and tenant matters, development, investment acquisitions and disposals & real estate finance.
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