Commercial property – what is an overage?

An overage payment is part of property law and commonly used to create an obligation on a buyer to pay a further amount in the future. Overages can be complex and difficult to administer, as they are dealing with future events, and so should be carefully drafted. However, they can also provide a way to balance interests in a transaction and to ensure that everyone gets the value they are looking for from a deal.

What is an overage?

It is essentially an agreement to pay an amount in the future if a specifically defined trigger event takes place. An overage can be used in a wide range of situations, such as where the buyer does not have the funds to cover the entire purchase price up front, or where the future value of the property is likely to be higher. One obvious example of the opportunity to use an overage to positive effect is where there is the possibility that a buyer may achieve planning permission after the sale that will significantly increase the value of the property. In that situation, achieving planning permission could be the event that triggers the requirement to make the additional overage payment to reflect the increase in land value.

How does an overage work?

Any agreement for an overage will usually define an overage period, as well as the trigger events that may occur to require the additional overage payment to be made. It will also set out how much the overage payment will be and how it will be calculated if it becomes due. An overage obligation may be a one off, in which case a single payment will release the obligation. It can also be secured to ensure that payment is made, for example by taking a charge over land.

An overage can be complex

A recent case illustrated just how difficult it can be to ensure that an overage works for both parties. The case involved the purchase of a property by developer London and Ilford Limited from Sovereign Property Holdings Limited. The agreement included an overage obligation that required the buyer to make an additional payment of £750,000 if approval was received from the local planning authority to develop 60 residential properties on the site. When the approval came through, the seller made a claim for £750,000 from the buyer under the overage obligation.

However, there was an issue in that the approval that had been received was for 60 flats but building regulations actually made this unlawful as a result of incompatibility with fire escape provisions. The developer refused to make the £750,000 payment, arguing that it had been designed to be paid where there was a commercially valuable benefit. As the full 60 flats could not be constructed, the approval from the local authority was not actually as valuable as previously quantified. However, the courts rejected that argument and agreed that the full payment of £750,000 was required.

Given the potential complexity of issues surrounding an overage, it’s important that these clauses are carefully drafted by experienced commercial property professionals. If so, they can be a useful tool in balancing the interests of both parties.