Middlehold – How to make the housing market work better

I blogged yesterday about the government’s proposals to boost the housing market. I set out below a sketch of my alternative proposal for a new concept of Middlehold to fill the chasm between short term insecure tenancy and long term social tenancies or home purchases.

Features of Middlehold

The key features of Middlehold would be:

• Security of tenure for between 3-7 years but with clear rules to enable repossession for tenant breach
• Rent to be set by agreement and to be freely renegotiated at the end of the term (may agree to have reviews during term)
• A premium to be paid by the tenant which is repayable on termination
• No premium payable to social landlords on first social tenancy

All these things could to some extent already be agreed under existing private tenancy laws by individual negotiation. However there is an understandable conservatism about such things and most ordinary tenants are unlikely enough to be sophisticated enough to attempt to propose an innovative tenancy structure. Few landlords would feel confident at doing so particularly as it would also involve them persuading their mortgage lender (if they had one) that it would not impair the value of their security – it would be above the pay grade of the call centre staff who typically administer routine mortgage matters. The legal costs of moving to such a model entirely independently would potentially be prohibitive.

This model of Middlehold tenancy would therefore need to be widely publicised consulted on and ultimately promoted by lenders, landlords and housing advisory services. The process of legislating specifically to put a paradigm of Middlehold in place which had already involved detailed consideration of the ramifications by leading stakeholder bodies would have this effect.

One of the key reasons for the old forms of long-term tenancy in the private sector becoming unwieldy was that they along with rent controls had the effect of being a serious disincentive for landlords to rent out property. Renting out to secure tenants with rights to controlled rent increases effectively expropriated control over property from landlords. So it was unsurprising that some landlords preferred to leave property empty to appreciate while property prices rose or that other “slum” landlords took outrageous and illegal methods to try to force secure tenants to abandon valuable properties which they had acquired cheaply because of the difficulty of realising value by legal means. Assured Shorthold Tenancies tipped the balance very decisively towards landlords getting the maximum flexibility in managing property as a business.

Middlehold would mix the flexibility of shorthold tenancies with longer term security that would enable people to rent a home for a reasonable period of time.

Calculating the premium

Central to the distinction between Middlehold and either buying a freehold/long lease or renting on assured shorthold terms is the notion of the premium. I would envisage that the premium should be a relatively substantial sum, calculated as being up to 10% of the freehold/long lease value of the property. There would be scope for a nil premium to be set and for this to be reflected in a higher rent (for private transactions) and for the precise share of risk/reward to be subject to negotiation between landlord and tenant but with a presumption of this being split 50:50. The effect of this would be to give the tenant a 5% stake in the value of the property and for them to pay an additional 5% to the landlord in consideration of the greater security of tenure that Middlehold would offer compared to an assured shorthold. At the end of the Middlehold term the tenant would see a return on that 5% stake depending on the market value of the property at that time. This would be a registrable interest so that tenants would be protected from an unscrupulous landlord simply pocketing the premium (as happens not infrequently with deposits). Lenders might in some circumstances require landlords to pay them the landlord’s share of the initial premium to mitigate the reduction in their claim to the property in the event of the landlord’s default.

There would be a balance between landlords wishing to claim the maximum value for their property and the fact that so doing would increase the amount that would be repayable to the tenant. This would temper the temptation to inflate the cost of renewal to force tenants out, which might be a concern for some.

The premiums that tenants would pay would replace deposits but allow for tenants to share increases in property value to an extent with landlords. They would mean that if property values rose substantially so that rental values rose beyond what the tenant could pay, they would at least get some benefit from the increased premium that the landlord could charge a new tenant. This would also give them an incentive to care for and improve the property (subject to any consent the landlord might require).

Landlords would also gain a degree of security because the risk of “voids” would be substantially reduced if they chose to let out on Middlehold terms. If they acquired the property on a mortgage, they could tie their tenancy terms to the period in which they had fixed the interest rate on their mortgage. This would make those properties more appealing security for the lending banks as there would be a predictable income stream and predictable cost of borrowing. Even in the event of default by a landlord who borrowed to purchase, there would be a steady income stream rather than a need to go through the expense of repossession and sale at potentially weak periods of market activity.

Impact on social tenancies

Moving social tenancy contracts on to similar terms would also have a benefit in terms of social mobility. Social tenants would find it much easier to move from social housing to private housing if they did not need to abandon the security of a social tenancy for a short term tenancy or have to have improved their means enough to be able to buy. All they will have needed to do is save enough to be able to afford the premium for a private rental. Just as a private tenant would share in the appreciation of the premium over the course of a Middlehold tenancy so too might social tenants who could use this as a deposit on buying a home or as a premium on a private rental. Rather than “bedblocking” social tenancies would not always be chosen for life so that more social housing would become available for those who were in need in the future without that always having had to be the result of new building.

The precise mechanism for the operation of Middlehold for social tenancies would need to be worked out following detailed consultation. Paying out an exit premium on the basis of increased property value would involve a degree of subsidy to social tenants who move to private accommodation. This may well be a good thing in that a subsidy in this form would be likely to be substantially less than the discounts offered to social tenants wishing to exercise their right to buy while avoiding the stock of social housing being diminished and having the most attractive properties sold off.

Middlehold and austerity

Finally, the other great benefits of this approach would be that it requires little immediate public funding to operate and would smooth the overall housing market including both renters and buyers. Instead of involving subsidies from the State to right to buy tenants and first time buyers who had not saved up sufficient deposits, the issue of deposits and security would be more closely managed by market forces. Rather than there being a need to make a big financial commitment to buy a small flat to get you on the property ladder and then to rely on increasing property prices and rising wages it would allow for rentals and purchase prices to be more closely related to what was affordable.

This is an opportunity missed for the government because property prices are weak now. The risks for lenders are high. The risks for householders are high because of the threat of stagnating wages and unemployment. Those are also risks for landlords, developers and banks. Smoothing the transitions between different types of housing so that they all form a clear continuum in a single market would allow for both better functioning of the housing market and homes which were more suited to the actual housing needs of people.

Smoothing the housing market so that there are fewer artificial bottlenecks and perverse incentives will also make the general economy less prone to being distorted by developments in housing. That should be a welcome change.