Overage agreements: recent cases

Fair shares

11 January 2015

Michelle Bendall reviews the implications of recent court decisions involving overage

Cases on overage clauses offer valuable lessons both in terms of negotiating agreements and drafting documents. They also demonstrate how the courts will look at interpreting documents, implying terms and considering mistakes and rectification.

Avoiding getting embroiled in a dispute is difficult in the area of overage because there will always be a divergence of opinion when the agreement comes to be implemented, no matter how good the drafting. The developer (payer of the overage) will want to minimise the sum and the seller (the receiver of the payment) will want to maximise the amount being paid out. The scene is set for conflict and litigation.

The first issue is whether an overage provision is the best way to deal with any hope value in the land. If the land is miles away from where the seller is located, if the site is small and there is a very remote prospect of a development taking place, who will police the site to see if there have been any breaches? Is it worth spending the time and money?

The second point, which will also seem obvious to anyone who has been involved in an overage dispute, is that the professionals working on an agreement must see it as a multi-disciplinary matter.

The full attention of clients, surveyors and lawyers is required at negotiation and drafting stage to ensure that the parties have a fair chance of avoiding a dispute in the future. Worked examples should be run on the wording used and kept with the legal documentation.

Much of the litigation surrounding overage clauses is pursued on the basis that one of the parties wants to imply a term into a contract or that there should be a rectification because one or both parties have made a mistake.

If the court is looking at interpretation and implied terms, there is a limit to the background documentation that can be placed before the court. The court will usually look at the document and draw conclusions from it.

An implied term can be introduced into a contract if it is clear that it is necessary for it to be there and if it is so obvious that it goes without saying.

Avoiding getting embroiled in a dispute is difficult in the area of overage

For example, in Renewal Leeds Ltd v Lowry Properties Ltd [2010] the seller sold land to a developer under an agreement that was conditional on planning and under which an overage payment of 50% of the total sale revenue became due if the figure exceeded £7.4m. This payment was triggered by the sale of all completed residential units.

Planning permission was granted for 84 houses, and 80 were sold for revenues of £9.6m. The remaining four houses, however, continued to be marketed at prices at least £34,000 above the market value and remained unsold despite the seller's offer to buy them. The original agreement contained no obligation on the developer to build or sell any units.

Here, the trigger was lacking. There should have been a provision requiring the developer to sell the units.

More often than not the court will not imply a term. Luckily for the seller, in this case the court ruled that a reasonable person would understand that the overage provision should not be frustrated by a developer refusing to sell the last unit to avoid payment — this would frustrate the commercial purpose of an overage provision.

In Ministry of Defence v Country and Metropolitan Homes (Rissington) Ltd [2002] EWHC 2113, the ministry of defence (MoD) litigated on a written agreement with Metropolitan Homes in August 1996 for the sale of 28ha at RAF Little Rissington for £8m for which County and Metropolitan plc were guarantors.

The site comprised 249 houses in varying conditions, together with barracks, hangars and other buildings.

MoD claimed £1m overage and Country and Metropolitan argued that on the true construction of the agreement the overage was not payable. If they were wrong there should be a rectification of the contract due to a common mistake between the parties.

The relevant clause of the contract stated: “It is hereby agreed and declared that following demolition of the buildings on the land shown edged brown, the hatched land shall forthwith be released from the overage payments and the parties hereto shall do all necessary acts to complete all documentation as may be necessary to release such land from the overage payments."

Country and Metropolitan received planning permission to build 26 houses on the relevant area. It then demolished 35 of the 37 houses and converted the remaining two into a village shop to comply with a planning requirement that one be provided for the local community.

Country and Metropolitan could have chosen to demolish these two houses and replace them with a newly built shop.

The barrister for Country and Metropolitan put forward two alternative additions to the relevant clause to be implied, which did not assist his cause.

They were: “provided if any of the said buildings cannot be demolished because they are required by the local planning authority to be retained and used as a shop in accordance with the planning brief…” or: “provided that if any of the said buildings are to be retained to satisfy the requirement of the LPA for the provision of a shop in accordance with the planning brief…”.

The court held that the original clause was clear and there was no obvious inference or requirement for business efficacy that terms should be implied to release the developer from the overage payment. The court also found that both parties had fully understood the meaning of the provisions and that there had not been any common mistake.

If ever a party was entitled to assume that its opponent knew what it was doing, it was the appellant in its negotiations with one of the country’s largest construction and development enterprises

Chartbrook Ltd v Persimmon Homes Ltd [2009] UKHL 38 provides a useful example of how the court looks at interpreting a document when it is not implying a term.

Chartbrook had entered into an agreement with Persimmon whereby the housebuilder agreed to obtain planning permission for the land. Persimmon would then, under licence, enter the land, construct a mixed residential and commercial development and sell the properties on long leases. It was then to take the proceeds of sale of those leases and pay Chartbrook Ltd an agreed price for the land.

A dispute arose over a term in the contract referring to the complex definition of ‘additional residential payment’. This was defined as meaning “23.4% of the price achieved for each residential unit in excess of the minimum guaranteed residential unit value less the costs and incentives”.

The House of Lords (reversing the Court of Appeal) found in favour of Persimmon (which had the overage payment obligation). The main question was: What was it 23.4% of? Persimmon had demonstrated that something had gone wrong with the language in the contract.

To interpret the definition of the additional residential payment in accordance with ordinary rules of syntax made no commercial sense.

The payment had to mean the amount by which 23.4% of the achieved price exceeded the minimum guaranteed residential unit value. The court stated that was no limit to the amount of ‘red ink’ or verbal rearrangement or correction the court was allowed when determining whether there was a clear mistake. All that was required was that it should be clear that something had gone wrong with the language.

The question of whether or not evidence of precontractual negotiations were admissible was considered by the court. It decided that even in a case where background might be relevant, a departure from the normal rule that precontractual negotiations should not be taken into account in interpretation cases would create uncertainty of outcome, add to the cost of advice and litigation etc. and could therefore not be justified in these circumstances.

Learning from mistakes

If a mistake is being claimed, background documentation can be considered by the court. There are two types: unilateral or mutual.

In the case of a mutual mistake the court needs to be satisfied that both parties made the mistake. This can often be deduced from the heads of terms and draft documents negotiated between the parties.

In the case of a unilateral mistake, the claimant needs to show that one party made a mistake and the other party took advantage of that.

George Wimpey UK Ltd (formerly Wimpey Homes Holdings Ltd) v VI Construction Ltd (formerly VI Components Ltd) [2005] EWCA Civ 77 provides an excellent example.

George Wimpey sold a site to VI Construction for development. A complicated formula was redrafted by VI Construction and adopted by the parties in the subsequent contract. But the redraft omitted a deduction from the overage payment for enhancements and this was not fully appreciated by George Wimpey.

The overage was based on the aggregate sale prices of flats above an agreed base figure. To increase its sale prices, the developer enhanced the specification. Unfortunately for Wimpey, the overage formula did not exclude the value of those enhancements, and accordingly the landowner received an unexpected windfall from the increased sale prices.

George Wimpey brought proceedings on the basis that there was a unilateral mistake i.e. it had not taken on board the redraft and VI acted unconscionably by taking advantage of an error in the drafting.

The court dismissed an appeal by the developer for rectification on the grounds of unilateral mistake, stating: “It is worth pausing to reflect on the ‘drastic nature’ of a rectification order. It is drastic because it has the result of imposing on the defendant a contract which he did not and did not intend to make and relieving the claimant from a contract which he did, albeit that he did not intend to make.”

The case emphasised how difficult it is to prove unilateral mistake and Lord Justice Sedley concluded: “If ever a party was entitled to assume that its opponent knew what it was doing, it was the appellant in its negotiations with one of the country’s largest construction and development enterprises. In my judgment the mistake made by Wimpey was a result of its own corporate neglect for which VI bore no legal or — so far as it matters — moral responsibility.”

Michelle Bendall is a Partner at Veale Wasbrough Vizards LLP

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