What is the Right of First Refusal?

What is the right of first refusal
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Basically speaking, the Right of First Refusal (ROFR) is a contractual entitlement which gives an individual or parties the opportunity to ‘enter into a business transaction’ with another entity before that entity can take its business proposition elsewhere. It is most commonly seen in situations where there is a joint venture between partners, where one might be given the option to buy the other out, for example.

If you’re a freeholder or a leaseholder, you may well have come across the term when buying or selling your home, for, in the property industry, this refers to selling a freehold. The right of first refusal gives leaseholders the chance to buy the freehold to their flats before another landlord is able to.

How Does the Right of First Refusal Work?

If you’re a freeholder: the ROFR will form part of the notice documentation that you or your solicitor will send to each of your tenants (the leaseholders). This is known as a Section 5 Notice and is legally required to be issued by freeholders who wish to sell their property. Failing to comply with Section 5 can result in a criminal conviction and a hefty fine, so it’s best to seek help if you’re unsure how to issue the notices correctly.

At Freehold Sale, we offer a free Section 5 Notice service in which we prepare and serve the Right of First Refusal notices to your tenants on your behalf. Our expert team has a wealth of experience in serving these notices, ensuring that thorough accuracy checks are carried out at every stage. Once the notices have been served, a two-month qualification period applies, which enables the leaseholders to make a decision on whether to collectively purchase the freehold. If they agree to buy then the appropriate legal processes should be followed which results in the transfer of the freehold title to the leaseholder(s). If they do not accept the ROFR offer then you are free to sell your freehold to another party.

If you’re a leaseholder: you will receive the ROFR and other paperwork, setting out the intention to sell and advising that you may buy your freehold should you wish. It will specify the date by which you must provide an answer and how to do so. It should also state the offer price so you will know how much it costs to buy. It’s worth knowing that the freeholder can change their mind in this time before the contract is binding. If you want to take up the offer, you must accept in writing before the qualification period expires. This will never be less than two months.

The Legal Aspects

Where a Landlord considers selling a freehold interest, it is important to understand the legal obligations before offering the property for sale. By law, he must first offer the asset to the leaseholders before offering it to anybody else. The offer is provided by serving a formal notice in writing to all qualifying tenants, which notifies them of the Landlord’s intention to sell. The notice will include the price it is being offered for and it must allow the tenants time to consider the offer. This process is known as The Right of First Refusal and is served by way of a Section 5 Notice and this is provided by Part 1 of the Landlord and Tenant Act 1987.

There are five types of Section 5 Notices which exist. The most frequent notices used are a Section 5a which is used when the freeholder intends to sell by simple contract to the open market or a Section 5b which is used for selling by public auction. The other notices consist of a Section 5c which is a grant of an option or right of pre-emption, a Section 5d which is a sale not pursuant to a contract and lastly a Section 5e which is a sale for non-monetary consideration. All of which are relatively uncommon.

For Right of First Refusal to apply, the freehold must contain at least two flats and no more than 50% of the building is to be in non-residential use and more than 50% of the flats in the building must be held by ‘qualifying tenants’. In some cases, the Right of First Refusal is not available to tenants of local authorities and housing associations and sometimes when the landlord lives in the building.

The process for serving the Section 5a Notice provides the leaseholder with a time frame of two months to consider the offer. The notice is deemed to be served two days after posting. The leaseholders then have a further two months to nominate a purchasing group or company. The nominee must then be sent a contract within one month and has a time frame of two further months to sign and return the contract and pay the deposit. During the notice period, the freeholder cannot sell the property to another party or offer the asset to anybody else at a lower price than what was proposed to the tenants.

The freeholder has the right to withdraw the offer at any time during the notice period before a contract is made legally binding. When a notice is served it is valid for a period of twelve months. Once served the freehold cannot be offered to anybody else on different terms unless the Landlord serves the notice again and includes the new offer terms. However, if the leaseholders do not send a prescribed acceptance within the initial two months’ notice period the Landlord has the right to offer the property at the same or increased price to the open market.

If the Landlord decides to serve a Section 5b notice in order to dispose of the freehold through a public auction, the notice must be served between four and six months before the date of the auction. Therefore, the date could fall anytime between month four and month six. The notice may include the scheduled date of auction however if the date is not included, the Landlord is required to serve a further notice to the requisite majority of leaseholders no less than 28 days before this date. The leaseholders are free to attend the auction and compete against other bidders on the day.

It is a criminal offence and a breach of legal obligations if the Landlord sells the property and fails to offer the Right of First Refusal. In this instance, the leaseholder can exercise their right to serve notice on the new Landlord demanding details of the transaction including the price paid. They can then take action and force the new owner to transfer the freehold title to them on the same terms for which it was acquired.

The freehold will always be worth more to the leaseholders as they gain the most by owning the freehold to their properties. If they decide to purchase the asset, they gain full control of the building which enables them to keep maintenance costs down. They no longer pay ground rent as they are the freeholder and should they wish to make any variations to their lease, they will incur minimal costs.

What Happens if I don’t get the Right of First Refusal?

This shouldn’t ever be the case – the Right of First Refusal (ROFR) is a legal obligation and a big step in the process which freeholders must undergo if they want to sell. Failure to offer the Right of First Refusal (RFR) to leaseholders can result in a criminal prosecution – possibly leading to a £5,000 fine.

If this is the case, leaseholders are given the ‘rights of remedy’, which can effectively force the new landlord to sell the freehold to them. This failure by the original freeholder is not simply disrespectful to the leaseholders, but also to the person who has unknowingly bought the freehold, as they could lose the whole lot.

To learn more about the Right of First Refusal, take a look at our downloadable guide here.

For further information about serving Section 5 Notices or selling your freehold the right and legal way send us an email via our contact form or speak with one of our experts on 01245 227 920.

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