Commercial to residential conversion - streamlined but not yet straightforward

The Mailbox, Birmingham - an example of successful commercial to residential development

The plan was simple. In May 2013 new rules were introduced by the Department for Communities and Local Government to help developers  side step the usual planning processes and use permitted development rights to convert commercial properties into residential.

It was a clear bid to stimulate the market towards increased residential development. The rules give a three year window in which development, provided it does not impact transport the environment or flooding, can press ahead unhindered.

Yet as a seminar focusing on the legal, tax and insurance pitfalls of the new regulations heard last week, taking advantage of the opportunity to fast track planning is far straightforward (see q and a with panellists below).

"The fact is that not every local authority has embraced the government's thinking and, frankly, some are putting up as big a fight as the law will allow."

Without question there is great potential for reusing redundant or inappropriate office accommodation as a way to plug the current housing gap. An estimated 240,000 homes are needed to be built each year for the next few decades to meet demand and control a market that is heating rapidly as the UK accelerates out of recession.

An attractive proposition bearing in mind that VAT has also being recoverable on conversions since rules were changed in the 1990s to try to increase the reuse of vacant properties. 

And as Smith and Williamson VAT expert John Voyez pointed out to the seminar, it’s a much overlooked issue, but the difference between 20% VAT and 5% of even zero, even in a buoyant market can represent success or failure. 

Thus the recent moves to simplify and accelerate the commercial to residential conversion market, would, you might imagine seem rather attractive to developers in a rising post recessionary market with a critical housing shortage.

Yet the point emphasised by property lawyer Alex Ground of Russell-Cooke is that for all the efforts to streamline the process, as with any planning application, the new permitted development rights can easily unravel if developers fail to plan appropriately.

As a new piece of legislation, she pointed out, there is much still being tested. The fact is that not every local authority has embraced the government's thinking and, frankly, some are putting up as big a fight as the law will allow using rules on prior approval as a stick to beat unwanted developments.

"The clock is ticking rapidly towards the May 2016 sunset clause in the legislation which requires all conversions to be completed by the date to comply with the planning rules."

The critical issue for developers, explained Ground, is to prepare early and treat the streamlined application as seriously as you would do for a full planning application. That means you cannot ignore Section 106 requirements or overlook building regulations. The strict 56 day determination period means that any additional studies to comply with prior approvals means getting organised early.

Add to this the fact that, as Mike Carolan of Willis insurance pointed out, conversion projects also bring with them huge complication in terms of insurance, warranties and liability with, he added, most projects being inappropriately covered.

In short there are many hurdles to jump and without a proper appreciation of how to negotiate the obstacles, many a would-be straightforward transactions fails.

All of which is critical given that the clock is ticking rapidly towards the May 2016 sunset clause in the legislation which requires all conversions to be completed by the date to comply with the planning rules. 

There is an opportunity to take, agreed the seminar. But developers that fail to navigate the correct route towards permitted development rights could easily come rapidly unstuck.


Commercial to residential conversion: the legal, insurance and tax consequences

The panel: Mark Webb, Smith and Williamson, John Voyez, Smith and Williamson, Alex Ground, Russell-Cooke, Mike Carolan, Willis.

Q: Is the legislation timeframe likely to be extended? 

A: The panels view: Currently the rules stipulate that any commercial building converted to residential use under Permitted Development Rights must be in use and occupied by May 2016. While there is a clear desire within the industry to see government extend this deadline, there is no sign that any flexibility is likely on the horizon leading to this sunset clause being extended. 

Q: When will the 'bubble' burst?

A:The panel’s view: Clearly once the May 2016 deadline has past, the opportunity to potentially fast-track the conversion of commercial properties into residential units using the Permitted Development Rights legislation will disappear. However, the underlying desire by government is to see the construction of residential properties increase. Given the on-going strength of the post-recession market, it is likely that other incentives such as the opportunity to take advantage of reduced VAT rates for commercial to residential conversions to continue to make this an attractive proposition for developers.

Q: As the market picks up and investment margins become fatter, does it make it more or less important to understand the implications of VAT on your development?

A: The panel’s view: Absolutely. Making the wrong VAT-related choices on your development could see an additional 20% added to your build cost. Regardless of the state of the market, the impact on cash flow through the project life can make VAT a make or break issue.

Q:The purpose of this change in legislation to introduce Permitted Development Rights was to stimulate the market for commercial to residential development. Are we seeing this happen?

A: The panel’s view: Certainly there has been and continues to be a great deal of interest by developers in taking advantage of the rule change. However, it is also clear that there is a great deal of uncertainty around the details and, particularly in areas where local authorities are resisting the short cut in the planning process, much precedent to be set by the courts. With any new or change in legislation it is important that developers seek good advice to help navigate the journey – legally, from a tax perspective but also to ensure that the right insurance products are employed.

Q: Do the new regulations mean that developers can automatically have the right to convert commercial properties to residential?

A: The panel’s view: The legislation is designed to make it easier for old commercial properties to be converted into residential properties. However, it is still up to the local authority to decide whether prior approval needs to be sought across the three critical and potentially tricky areas of transport, environmental contamination and flood risk. As with any planning application developers are wise to take the potential for needing these consents seriously and, given the 56 day limit for dealing with them, to get in there early to start the process. In essence, the advice is to treat permitted development rights application with the same degree of diligence as a standard planning application.

Q: Is it fair to say that developers still know too little about the legal, tax and insurance implications of commercial to residential development? 

A: The panels view: The new rules make this a very complex area and one which is open to a great deal of interpretation. There is no doubt that without proper professional advice, developers could easily find themselves exposed to higher short term costs or potentially expensive risks in the longer term. Legally the new legislation brings with it a number of untested scenarios which must be carefully managed. From a tax perspective, there remains a clear incentive to adopt best practice to minimise the short and long term liability. From an insurance perspective the reality is that a lot of projects are being set up with insurances that may not comply with contract conditions and/or that do not provide developers with the best risk protection.

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