Leasehold issues for lenders mini-series 5: Cladding issues

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The Grenfell tragedy has left a legacy that is adversely affecting leaseholders and lenders.  Walker Morris Banking Litigation specialists Louise Power explains and offer their legal and practical advice.

What is the issue?

The Grenfell tragedy occurred in June 2017 and subsequent investigations have raised a number of concerns with fire safety and construction practices within blocks of leasehold flats throughout the length and breadth of the UK. Two are of immediate concern to lenders: cladding and general fire safety construction.

The many issues for lenders arising from this situation include the value of security being adversely affected (in many cases severely); and extra safety and security measures increasing services charges (which puts additional financial pressure on leasehold customers and increases the risk of default and forfeiture and/or eats into equity where lenders step in to meet payments). The situation is also leading to a new breed of ‘mortgage prisoner’ and vulnerable customer.  As well as commercial considerations, all of this has TCF/regulatory and reputational ramifications for lenders.

What do lenders need to know?

In relation to cladding, there are two major classes: ACM (Aluminium Composite Material) cladding and HPL (Hire Pressure Laminate) cladding.  ACM cladding, which was the type used at Grenfell, has been identified as the greatest risk. Around 200 private sector developments of over 18 metres in height [1] have been identified as having ACM cladding.  It is unknown how many developments with unsafe cladding are below 18 metres [2] and, in those buildings, whilst evacuation might be easier, the cladding nevertheless represents a safety risk.  The second class, HPL cladding, is also dangerous and has many of the same highly combustible features of ACM.

The response to the Grenfell tragedy has led to the following approach by Government:

  1. A £600m fund has been made available for the removal and replacement of ACM cladding for private sector developments over 18m. However many leaseholders are complaining that the application process is arduous and difficult. For example, as at the date of writing, only four applications for funding have been approved and, out of those, only one payment has actually been made.  This is despite some 82 applications having been submitted and despite the Government scheme having been in place for several months.
  2. For HPL cladding, the UK Fire Authority now requires [3] that freeholders and responsible authorities identify whether the cladding is safe and, if it is not, immediately appoint a “waking watch” 24 hour fire security guard until an acceptable fire alarm system is installed (the alternative is for the Fire Authority to issue a prohibition notice requiring immediate evacuation). Many leaseholders are complaining that the waking watch is very expensive and monthly costs can run to almost £1,000 per flat. Furthermore, the fire safety alarm systems themselves are expensive and still require a 24 hour “responsible person” to be on site at all times, which effectively leads to the retention of the waking watch personnel. All such costs are being charged to the leaseholders under their leases as service charge.  There is no government fund to support HPL cladded buildings and the Government admits that it does not know how many buildings are affected.
  3. As of the 11 March 2020 budget, an extra £1 billion will be made available in 2020 – 2021 to fund the removal and replacement of unsafe non-ACM cladding systems on buildings in both the social and private residential sectors of 18 metres in height and over.  The Government has made clear that building owners remain legally responsible for ensuring the safety of their buildings and residents, and that it expects building owners who have already committed to pay for the removal and replacement of unsafe non-ACM cladding systems on buildings above 18 metres honour these commitments. The Government has also confirmed that, as a condition of funding, building owners must pursue warranty claims and appropriate action against those responsible for putting unsafe cladding on these buildings, which will be repaid to government once recouped.

In relation to general fire safety construction, it is important to note that cladding merely covers the external façade of a building and has no bearing on whether or not the overall underlying structure is fire safe. This is crucial, as the Grenfell tragedy occurred not only due to the cladding, but also because of a lack of fire compartmentalisation [4], fire doors and proper ventilation.  The Government’s proposals for dealing with cladding do not address these underlying problems.

Whilst the RICS, UK Finance and BSA have agreed Form EWS1 – External Wall Fire Review to identify whether a development is unsafe, this only deals with cladding; it is limited to buildings over 18 metres; and it will not identify any underlying issues. This will not, therefore, address the fact that many lenders will find themselves having lent on properties that remain unsafe and do not represent adequate security.

As indicated above, many leaseholders also complain that they are now mortgage prisoners in buildings where ACM or HPL cladding has been identified.

Valuers are valuing many such properties at £nil, making it impossible for customers to sell or remortgage on to better rates. The BBC has reported that, in some cases, an excess of caution has meant that even buildings with low-risk or non-combustible cladding have become unmortgageable.

Apart from the issue of insufficient security, many affected properties could represent significant and ongoing liabilities for lenders.

These issues may also lead to affected customers being classified as vulnerable. A mental health survey by the UK Cladding Action Group (which was widely reported in the mainstream media during 2019) has identified that:

  • 64.8% of residents say their mental health has been “hugely affected” by the ongoing crisis in their blocks
  • 77.8% have experienced anxiety as a direct result of the crisis, while 23% have experienced depression and 65.8% have had difficulty sleeping
  • 8.7% have experienced suicidal thoughts as a direct result of the cladding issues
  • 66.3% have been told by surveyors that they cannot sell their properties
  • 28.1% have been diagnosed with a health issue by a medical professional
  • 86.2% have seen service charges go up, with 25% saying more than £200,000 has been spent on their blocks
  • 25% feel they cannot start a family as a result of the issues.

What can lenders do?

From a legal perspective, Walker Morris’ recent success in the Zurich warranty litigation has assisted.  In particular, we now have Court of Appeal authority that leaseholders are, in principle, able to recover losses that they have suffered where a property was signed off as being compliant with building regulations and warranty providers’ requirements, but where it has now been identified that that was not the case. This decision is particularly useful for cases where underlying issues are identified beyond just the type of cladding used.

From a commercial and regulatory perspective, the Financial Conduct Authority has been working closely with a lenders in an attempt to tackle these issues.  One key aspect will be the resurrection of lending/remortgaging on non-combustible clad properties.  A potential solution is the industry-wide adoption of a certification process [5] which should enable a valuation to be issued, and a mortgage application to proceed, in such cases.

Walker Morris will continue to monitor and report on key developments.

In the meantime, if you would like any further advice or assistance in relation to any of the issues addressed in this briefing, please do not hesitate to contact Louise Power.


[1] the Government and Fire Service consider any building less than 18m does not represent as much of a risk as it can more easily be evacuated

[2] although according to figures reported by Inside Housing on 12 March 2020, there are 100,000 buildings between 11m and 18m in height compared to just 12,000 above the 18m threshold

[3] see MHCLG Consolidated Note dated January 2020

[4] i.e. ensuring each flat was a fire-safe “box”.  The fire services’ mistaken belief that each flat should have been a compartmentalised fire-safe unit prompted the advice to residents to remain in their flats and not to try to vacate the building.  Had the overall structure been fire-safe as it should have been, that would have been the correct advice

[5] Mortgage Finance Gazette has reported that Barclays has been working collaboratively with trade associations, surveyors and fire-safety engineers in relation to such a process, which is now in its final stages