The pros and cons of overage agreements

Categories: News

Zoe Smith, Head of Commercial Property at ORJ, gives an overview of overage agreements – and their risks.

Overage agreements can be a useful way for landowners to dispose of assets that have greater potential value – but both buyer and seller must be very clear on the terms of the deal.

With an overage agreement in place, the seller retains a share in the future value of the land or property.

They are generally used if the land or property has the potential to significantly increase in value – for example, if planning permission for development is obtained down the line or when a development is complete.

It can mean the buyer receives a discounted rate for the initial purchase – but they must be aware of their future obligations to pay a percentage of the uplift.

Overage agreements are increasingly common when a large landowner or a farmer sells land to a developer, but I have also seen them used on residential or commercial properties.

For example, if a residential property is being sold with a large garden, an overage agreement can be implemented so that the buyer must pay a percentage of the value increase to the seller if a property is built on that land at a later date.

Typically, an overage agreement sets out a payment of 25-50% of the additional market value of the property. That means, if the property increases in value by £50,000, overage could be between £12,500 and £25,000.

An overage agreement must also last for a defined period of time, typically between five and 20 years. The time period must be considered carefully as too short and the seller may lose out, but too long and the buyer’s freedom to deal with the land could be hampered for years.

One thing to be aware of is that many banks and building societies are not keen on providing mortgages for properties with an overage clause as they may struggle to sell it if they ever need to repossess it.

Some lenders, however, will consider a mortgage with an overage agreement if there is a large deposit and a favourable report from a valuer.

For sellers, a key risk of an overage agreement is enforceability. If the agreement is not properly drafted, the obligation to pay overage may be lost if the property changes hands, or if the buyer structures future transactions to avoid the trigger event. 

For buyers, overage agreements can limit future flexibility. It may affect the property’s marketability, as potential purchasers may be reluctant to take on the obligation. The formula for calculating overage should be scrutinised closely, as poorly defined terms can lead to disputes over timing, valuation, or deductions for development costs.

Tax implications must also be reviewed, as overage payments can have unexpected consequences for capital gains, stamp duty or VAT.

Overage agreements can be a useful tool, but they can also be a source of conflict. Contact me today on zoe.smith@orj.co.uk or 01785 223440 clear and precise advice.