Leasehold versus freehold: An argument that will go on until the cows come home

By Alan Cheong / Savills, The Edge Property | May 28, 2015 9:00 AM SGT
Many have always debated over the issue of whether to buy a leasehold or freehold property. (In this article, we shall treat 999-year leaseholds as if they are freehold in nature.) In their quest to find out more about these two tenures of properties, one thing they will encounter is the question of what premium a freehold property commands over one that has a limited legal lifespan. However, one thing that many will notice is that wherever they turn to for an answer, there doesn’t seem to be a definitive one. Even professionals like valuers would condition their reply with an approximate percentage. Often a 10% premium is used.
Mathematically, the difference in value between 60 to 99-year leasehold and a freehold land is negligible. It is only when the remaining lease gets down to 78 years that the difference amounts to 10%. The discount for a leasehold of varying tenures to a freehold have been tabulated by the Singapore Land Authority (SLA) which valuers refer to. What goes into the math behind typical tables of such nature is straightforward. It generally is an accelerated rate of decay in value for leaseholds as its tenure approaches zero. In practice, there are other factors to consider which adds to the complexity of analysis and therefore why the difference in value in a real life case may stray from simple decay formulas.
Before we try to look at the discount a leasehold property has over a freehold, one should ask whether there is one to begin with. From a theoretical standpoint, there is. This is the fact that a leasehold has a limited lifespan in them and because in an investment, there are two components, namely the return of capital and the return on capital, the need to recoup the former over the life of the lease means that the return for a leasehold should be greater than that of a comparable freehold. What this means is that a leasehold value should be at a discount to freehold. As the rental market does not distinguish between leasehold and freehold, rents should be...