An overage clause is typically included in a commercial property sale contract and allows the selling party to receive more monies after the sale is complete and the agreed-upon ‘trigger event’ occurs. Generally, the trigger event is an increase in the value of the property in the future. In this article, what is overage clause in property, we take a look at the process involved and the options available to you.
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Are there different types of agreements?
A seller can protect an overage payment in a variety of ways. The duty to pay is a contractual agreement between the two parties that governs their relationship. You run the risk of not being able to collect payment if you rely entirely on the contractual obligation and provide no security in the event that the contract is breached. A special purpose vehicle (SPV) with few assets to pursue is especially of concern if the developer in question is using this as a mechanism to purchase the land.
Protection through a legal charge on the title being sold is one type of protection, but developers frequently oppose it. Any development funder is likely to require a first legal charge on the property being developed, therefore using a legal charge to protect an overage agreement may make it difficult to develop a site.
Local councils should likewise proceed with caution if they intend to use restrictive covenants or ransom strips to shield an overage payment from being collected. With the use of a restrictive covenant, it is necessary to preserve some land that benefits from the restrictions imposed by the limitation covenant. If this is not the case, the restricted covenant will be declared null and void. In order to ensure that no prescriptive rights developed over time, a ransom strip would require careful monitoring. The retention of a ransom strip in the absence of a background agreement dealing with future payments will not protect payment or ensure that the best consideration is obtained on the sale of the original site.
Including a positive covenant in a contract that is protected by a limitation on title is the most common technique for protecting an overage from being forfeited. As a result, a purchaser is prohibited from disposing of the property without first obtaining the consent of the beneficiary under the overage agreement. A positive contract requirement would also require that the restriction be lifted or consent be provided upon payment, if the contract was to be fulfilled.
What events trigger an overage clause?
As previously stated, an overage clause mandates the buyer to make an additional payment to the seller, representing a portion of the higher value of the property/land when an agreed-upon trigger event occurs. This event could include:
- The giving of approval for development or a change of use.
- Disposal of the property/land with the benefit of planning permission.
- Early implementation of planning permission and disposal of the property/land with the benefit of that planning permission.
- Disposal of the property/land at a higher price within a fixed time period.
- Disposal of the completed development.
Overage provisions allow the seller to sell at the current market value of the property/land without having to give up a portion of the development potential when it is realised.
Situations in which an overage clause may not be advantageous
Overage provisions, while useful in some sales contracts, may not be appropriate in all cases, such as:
- If the likelihood of the land/property being developed is remote, the cost of arranging elaborate payment provisions may outweigh the likelihood of the overage payment being made.
- Overage clauses may also have an impact on the initial purchase price that the buyer is willing to pay for the property/land.
- When a buyer buys property/land with the purpose of redeveloping it immediately, it is often preferred for the seller to provide the buyer an option or engage into a conditional contract for the sale. Completion occurs only once planning permission is granted, and the purchase price can then be computed based on market value using the actual planning approval obtained.
What will the payment be?
When determining how much to pay and how to compute the amount, it is crucial to keep things as simple as possible; this ensures that there is little space for error and that the outcome accurately reflects both parties’ aims.
Typically, the amount payable will be a percentage of the increase in value caused by the planning permit, or the difference between the price at which the buyer purchased the property and the price at which it was sold, if payment is triggered by the property’s resale.
Typically, the cost will be determined using an open market appraisal. To ensure accurate comparisons, land will be valued on the same day with and without planning permission (not affected by inflation or economic events etc). In some instances, a fixed payment based on measurement will be payable, such as for each unit or square metre created; in these instances, it is crucial to understand how these measurements will be determined.
Is the payment sufficient to discharge the obligation?
It is vital that this section of the agreement is written in a straightforward manner; otherwise, complications and loopholes can occur. To avoid this, it is critical to acquire expert legal counsel.
In most cases, overages will be a one-time payment determined by the property’s initial, unique development. This, however, opens the door for the developer to undertake a little value enhancement in order to “clear off” the overage prior to making much larger and more substantial adjustments. While this may save the buyer from paying expensive fees, it would be bad for the seller, especially if the money was being used to purchase something else. To that purpose, it is necessary to include a good faith clause in the contract to safeguard the seller from exploitation, or to specify a minimum provision before overage kicks in, possibly about 10%.
How we can help
We have a proven track-record of drafting overage agreements. We will guide you through the process and ensure all checks are carried out swiftly and efficiently and we firmly believe that with the right solicitors by your side, the entire process will seem more manageable and far less daunting.
How to Contact Our Commercial Property Solicitors
It is important for you to be well informed about the issues and possible implications of including an overage clause in a property purchase contract. However, expert legal support is crucial in terms of ensuring a positive outcome to your case.
To speak to our Commercial property solicitors today, simply call us on 0345 901 0445, or click here to make a free enquiry. We are well known across the country and can assist wherever you are based. We also have offices based in Cheshire and London.
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