Leasehold vs freehold properties
We’ve had a number of inquiries about the difference between a leasehold and a freehold property, and what are the implicated risks when purchasing a leasehold. With that being said, we’ve decided to write this blog post to help explain the definitions of both a leasehold and freehold property, the risks associated with a leasehold property, and various other tips to consider when making the decision to purchase a leasehold. Read on for details!
What is a freehold property?
With a freehold, you basically own the property and the right to remain in the property in perpetuity, provided you make timely payments to your lender. In the land title office, where your name becomes registered as an owner, you are mentioned as a “freeholder,” thus owning the “title absolute.”
If you have the money to obtain a freehold property, in almost all cases it will be the preferred and best option. In this case, you won’t have to pay annual ground rent, you don’t have to worry about a freeholder (aka landlord) not living up to their duties of maintaining the building, or charging you large sums of money to fix it.
An almost sure example of a freehold property is a detached home. You own the property and the land it sits on, you don’t pay an annual rent to a landlord (although you do pay property taxes like every one else), and you and you alone are responsible for maintaining your house. (like the roof, exterior, windows, etc.)
What is a leasehold property?
In a leasehold situation, you’re buying the structure and building(s), while leasing the land from the owner. This lease land is often city-owned, but the federal government, First Nations lands, Universities and even private individuals also own and rent out land. The freeholder in this case can also be referred to as a landlord, and a leaseholder essentially has a contract with the freeholder of the land, which outlines important terms such as the length of the lease, and the legal rights and responsibilities of either party.
Oftentimes in a leasehold agreement, the leaseholders may face restrictions such as not subletting or owning pets. They will have to report to the freeholder if they would like to have any major works and renovations done to the property, expect in the case that they have claimed a “right to manage” certain aspects already agreed upon. The freeholder is typically responsible for maintaining the common property within the building, such as entrance halls, staircases, recreation rooms, as well as major aspects of the building like the walls and roof.
There are many examples of leasehold properties in the False Creek area of Vancouver, the University of British Columbia, and Simon Fraser University in Burnaby. The leases often expire, for example in 2091, and are then rented out to developers for a set amount of time, usually between 50 and 99 years. The developers or “leasehold landlords” build on and make improvements to the land, then sell or rent out portions of the buildings. Basically you are buying a “right of exclusive possession” until the end of the lease period, or until you sell that right to another person. You can own the property, but not the land it is on.
What are the risks of a leasehold property?
- You’re often buying a better lifestyle, but in the majority of cases not a better investment. If you’re looking for a property that’s fully renovated, big interior size, etc. at a hundred thousand dollars below all the others comparables, this may be an option. Leasehold properties are typically less likely to appreciate in value.
- Some lease payments may not be prepaid. In the case that they aren’t, the agreement with the freeholder will usually allow for annual lease payments (similar to rent) to be increase periodically, sometimes dramatically, in addition to your strata fees, taxes, and mortgage payments, so that the land is up to date with current market value. If the lease has been prepaid already, this will alternatively be incorporated in to the selling/purchase price.
- If the lease on your unit is soon coming to an end, you won’t be able to say with any certainty whether it will be renewed, and if so, at what cost once rising land values have been factored in. Once the lease runs out, the owner may choose not to renew it or may renew it at a much higher market value.
- Banks don’t like the uncertainty surrounding certain leaseholds, and as a result of that most lenders will ask for 25-30% minimum down payment. Lenders also use the expiry date of the lease as a guideline for loan amortization periods, lending only for five years fewer than the remaining lease. So if a lease expires in 20 years, for example, you would only be able to get a 15-year amortization period for that loan. Reverse mortgages for retirees can be next to impossible to get for most leasehold properties. Because this lowers the pool of buyers that can purchase, this is a large part of the reason why leasehold properties typically stay on the market for longer, are harder to sell, and do not appreciate as much as freehold’s.
- The lease may not be renewed, in which case most lease agreements give the landowner the right to buy out the buildings at fair market value, then do with the land what they wish even if that means tearing down existing buildings, rezoning, or selling for redevelopment. You might have to move.
Tips if you’re thinking of purchasing a freehold
- Find a realtor that is familiar with leasehold properties and can advise you accordingly.
- Consider how many years are left on the lease and how it might affect your budget and the value of your property. 99 year leases are the safest bet. You’re not going to be living in your property for 99 years, and even if you sell it in 30 years you’ll still have 69 years left on the lease for the next person.
- Look for long leases – 25 years or longer – and preferably for a length of time that far exceeds the time you plan to live there.
- Factor in service charges and related costs in to your budget.
- Separate your needs and wants and really break down if you NEED to be in the heart of downtown or if you can take 20 minute bus, live a little bit further out of town, and purchase a freehold.
- Talk to your bank or mortgage broker prior to putting an offer in to see if you qualify based on the leasehold property you are thinking of purchasing. Make sure you have 25-30% down, and if you don’t confirm with your bank before that they will still approve your financing. The length of the lease may also affect whether or not you are able to qualify.
- Check and make sure the lease is prepaid. If it was not prepaid, then make sure that you are able to handle the annual payments that go along with this.
If you’re thinking of purchasing a leasehold property and aren’t 100% sure if it’s the best option for you, then give us a call, text, or email. We can search the property and give you our honest opinion, as well as some other options that might work for you. Making sure that you know all of the different avenues that you can take when it comes to real estate is extremely important. That way, you know that you’re making an educated and informed decision – whatever you end up choosing. We’re here to help!
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