Do lenders need to be proactive about building safety? Yes, they absolutely do

Building safety was turned on its head in 2022 when the Building Safety Act became law. Since then numerous regulations have come into force, accompanied by reams of government guidance.

The initial impact of these were felt in the real estate sector and construction industry, and is now filtering through to wider stakeholders, including lenders and investors.

So, what are the changes that lenders and investors are seeing, and how is it impacting their investment decisions?

The enormous scale of building safety changes in England

These changes were necessary following the Grenfell tragedy seven years ago. They completely overhaul building control laws and procedures, as well as restructuring the building control profession. It's impossible to explore all the changes in an article (or even tens of articles), but here are some key themes.

Nearly all buildings are affected by the changes, in particular through the introduction of new obligations for "dutyholders" – clients, principal contractors and contractors, principal designers and designers – including new competence requirements. Other changes include the introduction of stop and compliance notices which building control authorities can issue against non-compliant work (failure to comply with these notices is potentially a criminal offence), and the automatic lapse of building control approvals after three years where work has not commenced.

However, 'higher-risk buildings' face wider changes. Very broadly speaking, these are buildings of 18m or 7 storeys or more, with two residential units or more.

In carrying out works to construct a new higher-risk building, or for works to an existing higher-risk building, there are many new requirements. For example, new building control approvals are needed from the Building Safety Regulator at Gateways 2 (before the works start) and 3 (after they are finished). A new golden thread of information must be created and updated covering the entire lifecycle of the building, and there are requirements to report certain safety occurrences to the new Building Safety Regulator.

During the occupation phase, there are also further requirements for higher-risk buildings, including the new Accountable Persons and Principal Accountable Persons regimes, where these new stakeholders have specific obligations. Additionally, higher-risk buildings must be registered with the Building Safety Regulator before occupation (again non-compliance is potentially a criminal offence).

More generally, for defective works and dwellings, there are new grounds for claims, and extended periods in which these claims can be brought. There also new ways to bring claims against the parties who are "associated" with the various businesses that carried out the defective works.

What should lenders be aware of?

From a lender or investor's perspective, looking in any great detail at how buildings were or are being constructed or refurbished may seem too granular, as in the past having an eagle eye view over projects has been more common.

However, lenders and investors now need to have a better understanding of the buildings in or being added to their portfolios, so that they understand the risks around these buildings, and any potential impact on their value.

This includes:

• Understanding whether buildings are higher-risk buildings
• Whether the higher-risk building is in the construction or occupation phase (or both, if refurbishment works are underway while part of the building remains occupied)
• For higher-risk buildings in the construction phase, whether the works have the necessary approvals from the Building Safety Regulator, the golden thread has been properly created and maintained, and whether the approved plans may be deviated from (which could require further building control approvals and cause delay)
• For higher-risk buildings in the occupation phase, whether the building has a completion certificate from the Building Safety Regulator, was registered as a higher-risk building before occupation, and the golden thread is properly maintained and updated.

For lenders and investors, there are challenges around establishing a number of these points as they are not as close to the action as a developer or landlord. However, carrying out appropriate due diligence (with the help of the lender's technical team) is key, to establish as far as possible that the building, and the investment in it, is not likely to face problems at a later date.

How can lenders protect themselves?

As is typical when lending against property, prevention is better than cure. To that end, well-advised lenders should make sure they're comfortable with the assets and team they are lending to before any money moves. 

In practice, this means:

• Thorough due diligence - ensuring the lender knows everything it should about the property is essential. That means a certificate of title, a professional valuation, a review of the construction package (especially where one or more professionals are dutyholders) and, where applicable, a report on the development by a professional project monitor. Importantly, each element of that due diligence exercise needs to be joined up so nothing slips through.
• Information supply – with higher-risk buildings, ensuring that the lender receives copies of (or access to) the golden thread information at each critical stage is essential. If something goes wrong, the lender might need access to that golden thread quickly and accessing a data room could be a problem if the owner has become insolvent. The same also applies to key correspondence with the regulator and other stakeholders.
• Engagement with professional advisers – even when the golden thread information has been supplied, how does a lender know if is adequate? Ensuring the lender is advised how, if at all, that information needs to be improved will be essential. But who is best placed to give that advice? Revisiting the scope of how lenders instruct their advisory team is likely to be necessary in the future to ensure it is advised on the adequacy of the golden thread and other issues where higher-risk buildings are concerned. This will of course inevitably lead to an increase in professional fees for that wider scope.
• Updating documentation - with the legislative framework still currently moving, it is understandable that relying on a general 'compliance with laws' provision in finance and other documents is simple solution. However, including specific provisions in documentation that deal with known requirements is generally preferable, not least to focus the parties' attention. Lenders should consider specifying in loan and security documents what a borrower needs to do and when to avoid ambiguity and issues being overlooked.

What next?

We'll keep you informed on further building safety changes – either in the form of legislation, market practice or guidance. This includes more information about mandatory second staircases in new higher-risk buildings, and potential developments around cladding and construction products.

The Grenfell Inquiry Phase 2 report is also due later this year, which could well set the scene for further review and change.

For more, please see our Building Safety Hub or feel free to contact us directly.