Co-ownership: A new approach to housing

The Chris Cook Economics 3.0 column

Only in Scottish law is there to be found a pragmatic but unconventional “Not Proven” middle way between the absolutes of Guilty and Not Guilty. Perhaps this is why the Scottish Parliament’s Economy, Energy and Tourism committee recently listened attentively to the unconventional energy financing options which Nordic Enterprise Trust (NET) has developed in Scotland with support from the Norwegian state agency, Innovation Norway.

But throughout the UK a far greater political hot potato than renewable energy is the catastrophic decline in investment in housing’ both in the public and private sectors. More urgently still, indebted home owners are losing their homes in increasing numbers, and the tools at the Government’s disposal are plainly inadequate.

We believe that there is a simple but radical new property solution – Co-ownership.

Public and Private
We all take many things for granted: one of them is that when we say Public Sector we mean “owned by government” and when we say Private Sector we mean “owned by a Limited Company”. But, as the City of Glasgow has realised, there is an emerging alternative to the Limited Company, and this is the UK Limited Liability Partnership (LLP) quietly introduced in April 2001.

The LLP is the simplest and most flexible legal entity ever created, since the agreement between members is totally open, to the extent that it need not even be in writing. It enables the best qualities of a Limited Company to be combined with the cooperative values of a partnership.

Glasgow has at least four municipal LLP organisations which are used to engage with private sector partners to provide services such as car parking, market premises, and municipal building services. But these municipal LLP organisations leave financiers and ratepayers alike on the outside. This means that they are just as constrained by the Credit Crunch as any other organisations, and in their adversarial dealings with them, ratepayers and tenants perceive LLPs as no different.
The Land Partnership proposed by NET is not an organisation, but a framework for investment in municipal assets of all kinds, and in particular for investment in sustainable and affordable housing.

Land Partnership

A Land Partnership does not own anything, employ anyone, contract with anyone or even do anything. It is a simply a framework agreement between the various stakeholders.

Land ownership remains with, or is transferred to, a public custodian, probably, but not necessarily, a local municipality or council. However, land owners are not being asked to give their land away but rather to invest the value of the land/location – which comes from the right of exclusive occupation. The more acute land-owners will soon catch on to the fact that unlike with a conventional sale transaction to developers, such investment of their land will give them a stake in any development gain. While not every development goes to plan, NET’s partnership model ensures that everyone involved has an interest in ensuring that it does.

Whether or not it is municipalities or councils who invest the land, planning permission also has a value, and municipalities and councils would invest the value of that consent, again receiving a greater share in the outcome then they currently do. When materials, labour and services – or money from investors to pay for these – have been deployed, then valuable new housing is the result.

Once building has been completed, occupiers pay an affordable rental for the use of the investment made in the land/location. This “Capital Rental” will then be index-linked to a suitable measure of inflation. It is also possible to imagine a separate payment purely for the use of the location.

For those financiers sceptical of the model’s viability, the Hilton group entered into a >£1bn revenue sharing Capital Partnership several years ago in respect of 10 UK hotels, but have not yet gone down the road of “unitisation”.

Unitisation
This is the Alchemy. The Pool of rentals created by development is simply divided into proportional Units – such as millionths or billionths – and investors are invited to buy these Units of Public Equity. So Units are shares….but not shares as we know them….

Investors who have seen their income dwindling as interest rates spiral towards zero would queue up for an investment such as this. Units offer a reasonable, index-linked return based on property, but with a low risk that it will not be paid, since affordable rentals are by definition more likely to be paid. Units are a perfect investment for risk averse investors such as pension funds (although not UK pension investors – for tax reasons), sovereign wealth funds, and even Islamic investors – since no debt or interest is involved.

For occupiers there is an end of any stigma of tenancy, as they literally become co-owners within the partnership framework. If they are able to pay more than the affordable rental, they automatically buy Units, and thereby invest. Even if occupiers have no spare cash, those who maintain their property in good order themselves may receive “Sweat Equity” Units.

Sustainable Development
The conventional transaction-based development model is well described as the “Four B’s” – “Buy, Borrow, Build, and B…r Off”. Developers have no interest in energy efficiency, or good quality, since this costs money and reduces transaction profit.

In a Land Partnership, on the other hand, the managers of a development act as service providers, and have an interest in high standards of quality and energy efficiency. This is because to do so lowers the cost of occupation over time, and makes the Units they receive more valuable. Moreover, they no longer have the constraint of their capital base or creditworthiness: their only limiting factor is their time.

Contractors are invited to invest their costs, but many will be either unwilling or unable to do so. But whether or not they do so, any agreed profit margin will be received in the form of Units in the completed development, which they will be at liberty to keep or to sell to long term investors. In this way they have an interest in doing a good job to high quality.

Likewise, we often read of problems with massive management organisations (and housing associations and councils are no better than private sector organisations in this respect) whose interests are conflicted with those who live in the properties for which they provide services. In a Land Partnership the Manager member of completed developments has an interest in doing a good job because they will know that to do so will increase the value of their proportional partnership share in the rentals.

Unlocking Public Equity
New medicines are often tested on the most desperately ill patients, and we believe that our proposal could first be tested as a solution for the increasing numbers of home-owners who are currently suffering the trauma of losing their homes to debt.

Such distressed properties would be transferred to a custodian; an affordable rental would be set and index-linked; and then Units in the resulting “Pool” of affordable rentals would be sold to long term investors, with the whole scheme managed by local housing associations or other service providers.

Moreover, as property prices continue to decline – and I believe that there is further to go – we will see the already substantial number of people trapped by negative equity increasing further. Using the Co-ownership approach borrowers – whatever their position – may shake off the shackles of mortgage debt.

The limited (but still substantial) Government funding – for instance that of the Homes and Communities Agency – which is available for affordable housing would be best deployed as revolving development credit. This finances development in the short term and is then refinanced in the medium and long term by unitisation.

Development of new housing takes time, and available development credit is inadequate for the huge investment in housing needed. So NET proposes that some of the investment currently tied up in existing housing stock should be recycled and used to develop new housing. To achieve this we would simply refinance existing government, municipal and housing association borrowing with Units which would thereby dramatically cut financing costs. This is essentially a debt/equity swap on a massive scale into a new class of Public Equity.

Co-ownership is not Rocket Science, and it offers a simple, and apolitical approach to one of the most intractable problems of our time: affordable, high quality and sustainable housing for all.