The message from the government is clear: the housing market is broken and more homes need to be built. For many schools, this need for housing presents an opportunity.
In the majority of cases where a school is looking to obtain planning permission for a development, and then sell the land, the school will need to rely to some extent on the expertise of a developer. This article looks at the types of agreements which can be entered in between schools and developers. The same principles apply regardless of the size of the project, whether it is a couple of homes in spare garden plot or something much bigger. Where more than one landowner is involved, generally an overarching (or collaboration or consortium) agreement is needed between the landowners to enable the pooling of land and resources, but these agreements are complex and outside the scope of the article.
A promotion agreement contains a general obligation to promote a site for planning at the developer's risk. Sometimes it also provides for the marketing and sale of the site. The agreement is often entered into at a fairly early stage in the planning process, and the definition of "development" can be quite indistinct. The landowner is relying on the expertise of the developer. The size of the promotion fee will depend on the level of risk involved in obtaining planning and is usually a percentage of the sale price/market value. Where there is a sale, the promotion fee will be paid out of the sale proceeds and the promoter's costs will normally be reimbursed too.
An option agreement gives the developer the right to buy in particular circumstances (generally the grant of a satisfactory planning permission). Typically the developer will pay (on exercise of the option) a percentage of market value. This creates a tension between the landowner and the developer as the landowner will try to keep the land value high and the developer will want a lower value. It is essential that there is a minimum sale price. The agreement will contain specific planning obligations on the developer.
Conditional sale agreement
Under a conditional sale agreement, a landowner is obliged to sell and the developer is obliged to buy if certain conditions are satisfied (again, generally the grant of a satisfactory planning permission). The agreement will normally tightly define what constitutes acceptable development. There should be a price agreed or a pricing formula (not usually open market value) with deductible costs. A conditional sale agreement will typically have a tighter timescale than an option agreement but, again, must have a minimum price to protect the landowner's interest.
Joint ventures can take various forms but a typical arrangement involves the landowner putting in the land and the developer obtaining planning, building out the site and then marketing the built houses for sale. The landowner will often retain the freehold up to the point of sale to the ultimate house buyer. Generally, the developer will pay a sum up front to the landowner and the sale proceeds from the house sales are then split between the landowner and the developer on agreed percentages.
The landowner appoints (either through a development manager or itself) all the relevant professionals required to promote the site for planning and, if desired, to take it through to development and sale. Developing land oneself involves a number of contracts with each contractor having a defined role. The owner takes all the risk. Some costs may be considerable and there is no guarantee of a planning permission for an economic scheme. On the other hand, the landowner takes all the upside if the development is successful.
Which arrangement suits the school?
Choosing the type of agreement most suitable for a school will depend on a range of factors.
1. Appetite for risk. The two extremes are to do it all oneself or enter into an option with the developer and have no more to do with it. The more risk a school takes, the greater the potential upside.
2. Tax. Schools are often able to take advantage of valuable tax exemptions, as registered charities. They may therefore expect receipts from the promotion or sale of development land to benefit from these same tax exemptions. However, careful tax planning will be required to ensure that, where possible, these tax benefits are maintained.
The costliest tax charge that schools may face in promoting and developing land is on trading income. Trading income gives rise to income tax or corporation tax charges even in registered charities. Care must therefore be taken when formulating and drafting the relevant structures and agreements to ensure that the school does not commence a taxable trade as a "developer". Particular sensitivity is required for 'overage' or 'slice-of-the-action' arrangements, whereby the school may look to share in some of the post-development increase in value.
If arrangements cannot be structured to avoid a trading income tax charge for the school, it should consider establishing a specialist trading vehicle. This is because a charity is only permitted to carry out limited non primary purpose trading without being subject to tax on the resulting profits, so a trading subsidiary would need to be set up to allow development profits to pass to the charity with gift aid. However, transferring land into a trading subsidiary can trigger SDLT charges which, as a non-charity, a trading subsidiary cannot generally claim exemption from. A balance may therefore need to be struck between any short-term tax charges and longer-term tax efficiencies.
3. Desire for control. There is a balance here between the school imposing its wishes and putting off the developer. Sometimes a school will be happy simply to maximise value. In other cases, the school may want to influence the design of the project, particularly where it is close to the main school site or it opens up the possible development of adjoining land where connecting roads or services may be required.
4. Identity of the developer. Even if the developer makes the planning application in its own name, it is the school's land, and often reputation, at stake. It is generally important the developer understands and respects the school's values and that the school has seen other projects completed by the developer.
There is no "one size fits all" agreement. Schools need to give careful thought to their objectives and professional advice should be taken. However, there are exciting opportunities and, given the housing shortage, we see opportunities continuing for schools for many years ahead.
This publication is a general summary of the law. It should not replace legal advice tailored to your specific circumstances.
© Farrer & Co LLP, October 2018