Tenant to owner-occupier – advice on what’s involved
Sales to tenants are going on quietly and may increase in future © Tim Scrivener Tenants’ rights usually only hit the headlines when a high-profile landlord decides it’s time to dispose of or develop part of their tenanted agricultural investments.
They don’t come much higher profile than the Prince of Wales, and the recent decision by the Duchy of Cornwall to sell its 3,000-acre Bradninch Estate in Devon has certainly attracted a fair amount of media scrutiny.
See also: Sale and leaseback of farmland: is it making a comeback?
Away from the headlines, tenants and their landlords are quietly getting on with pulling together deals. In the north of England, Guy Coggrave, chief executive of GSC Grays, reckons selling farms to tenants will become a growing trend.
“Many traditional estates remain asset-rich but are increasingly cashflow constrained. That is causing owners to look more critically at whether significant amounts of capital should remain tied up in relatively low-yielding agricultural assets.
“The days of dealing with estate cashflow pressures by selling a cottage, a paddock or a field around the edges are becoming more limited.
“There comes a point where repeated piecemeal disposals begin to undermine the integrity of the estate itself,” says Guy.
More complicated succession planning, not to mention the recent inheritance tax relief reforms, can also prompt sale discussions, he adds.
“Historically, estates often passed largely intact to one successor. Today, families are understandably much more conscious of treating children fairly, and where the majority of family wealth is tied up in land, that can create a need to release capital.”
Andrew Capel, the Bedford-based senior partner of Robinson & Hall, says his firm has worked on a number of cases on behalf of landlords and tenants, including some where tenants have even successfully approached their landlords with unsolicited bids to buy their farms.
“It’s not uncommon and is a tactic that can work with some institutional landlords,” says Andrew. “However, those who are traditional long-term landholders may not be prepared to offer much of a discount on the holding’s vacant possession value.”
Those contemplating a bid should consider their timing carefully, advises George Dunn, chief executive of the Tenant Farmers Association.
“For example, if there is the potential for a tenancy succession, or if the landlord will have to invest a significant amount of money for an issue of statutory or regulatory compliance, that could be an opportunity to suggest a purchase.”
However, George warns: “Bear in mind that these transactions never usually happen quickly, so lots of patience will be needed.”
Doing the deal
Regardless of the circumstances, the difference between a farm’s vacant possession (VP) value and its value subject to the tenancy in place is the main reason a deal between landlord and tenant can make sense for both parties, although landlords are not obligated to give tenants first refusal.
“The landlord can achieve a better sale price than if they sold on the open market and the tenant will benefit from an immediate uplift in value [due to there no longer being a tenancy in place], once the purchase goes ahead,” explains Matthew Wilcox, a partner at south-west property firm Stags, which is acting for three Bradninch Estate tenants.
See also: Tenancy surrender negotiations: how deals can be done
How big the discount to VP is and how much of this vacant possession premium is included in the event of a sale will lie at the heart of any negotiations, says Matthew.
“The discount will vary depending on the type, length and security of the tenancy in question.”
For example, it will be much larger for a secure Agricultural Holdings Act (AHA) tenancy with any remaining successions than a shorter farm business tenancy (FBT).
“For AHA tenancies, depending on the tenancy terms, the discount is often between 30% and 50%.”
Where a company is the tenant on an AHA agreement, that will run indefinitely, giving the strongest bargaining position and will likely see a larger discount.
Getting a detailed valuation is vital for working out an accurate sale price and VP discount.
“Ensure full consideration is given to the value of any investments you have made into the holding, including tenant’s fixtures or improvements,” says George.
It should also include third-party access rights and easements, and the value of any mineral and sporting rights retained by the landlord, as well as any overage clauses on future development or restrictive covenants the vendor wants to include.
From a tenant’s perspective, however, overage clauses and retained rights should be limited, wherever possible, advises Andrew.
“It’s not really that attractive to pay your former landlord a share of value created by your own investment.”
Once the farm has been valued and the VP value and value subject to tenancy settled upon, the next stage is to negotiate how much of that discount (or vacant possession premium) is included as part of the sale.
“A starting point is often 50%,” says Matthew, “but in England, there is no hard-and-fast rule, and this is ultimately up for negotiation between the parties.”
Saying no
Sometimes, of course, the best deal may be to retain the status quo and not buy at all, points out Jeremy Moody of the Central Association of Agricultural Valuers: “A good farming business might ask why it should burden its balance sheet with all that debt.”
Despite the media coverage of the Duchy of Cornwall’s decision to sell some of its let farms, tenants with an AHA agreement or long-term FBT retain significant rights even if they choose not to buy.
In some cases, points out Andrew, it may even unlock additional investment into the holding from a new landlord.
In his experience, however, most tenants will want to buy if they can.
How lenders assess a tenant’s buying power
Finding the cash is always going to be the biggest stumbling block, but tenants can be in a stronger position than they might imagine when it comes to securing funding to buy their farm, says Richard Johns, a relationship director at NatWest who has helped finance a number of such deals.
One reason is that, subject to valuation and the individual circumstances, lenders may be able to recognise the difference between the price a sitting tenant pays and the farm’s open-market value as equity towards the purchase.
“As a broad guide, for lending to be considered fully secured we would typically be looking for the borrowing to be at or below around 70% of the value of the security,” explains Richard.
“Importantly, though, that 30% does not necessarily have to arrive as cash from the tenant.”
For example, a farm with a vacant possession value of £2m purchased for £1.7m would create £300,000 of potential equity.
If the tenant also owned 80 acres (32.3ha) worth £800,000, which could be offered as additional security, borrowing the entire £1.7m purchase price would represent an overall loan-to-value ratio of approximately 61%.
Affordability is another important consideration, but lenders can also take account of the fact that loan repayments replace an existing rental commitment.
“It is therefore the net change from rent to debt service, rather than treating the whole loan repayment as a completely new cost to the business, that is relevant to affordability.”
His advice is to approach lenders and professional advisers early, armed with trading figures, details of existing assets and realistic cashflow forecasts.
Banks will also consider credible plans to improve profitability through productivity gains, changes to farming systems or diversification.
Historic performance remains important, but where those plans are realistic and well evidenced, past performance may not necessarily be a complete reflection of the future performance of the business.
Above all, the business must demonstrate that it can service its borrowing while remaining resilient to fluctuating prices, interest rates and future investment requirements.
Advice checklist for tenants considering buying their farm
1. Check the details of the tenancy agreement to confirm aspects such as succession rights. It’s not unheard of for the paperwork to have gone missing or been lost. Use a solicitor familiar with agricultural tenancies.
2. Get an independent valuation. Understand the difference between the farm’s vacant-possession value and its value subject to your tenancy. This gap is crucial to negotiations.
3. Check what you already own. Identify tenant-funded buildings, fixtures and improvements. Make sure their value is recognised in any proposed deal.
4. Talk to your bank early. Establish how much you could borrow and whether the purchase discount or other assets could help provide security.
5. Do the cashflow sums. Compare existing rent with future interest and capital repayments. Allow for higher borrowing costs, weaker profits and essential investment.
6. Consider buying less. Purchasing the farmhouse, buildings and a viable core acreage could be more affordable than taking on the entire holding.
7. Explore alternative arrangements. Selling part of the farm to a neighbour, involving an investor or negotiating a tenancy surrender payment could unlock value.
8. Examine the small print. Check access rights, easements, repair obligations, retained sporting rights and any development clawback or overage provisions.
9. Understand the tax implications. Stamp duty, VAT, capital gains tax and the treatment of onward land sales or surrender payments could significantly affect the economics.
10. Don’t buy at any price. Ownership brings freedom and security, but a valuable tenancy and manageable rent may be preferable to an unaffordable mortgage.
