Breaking new ground

Zoe Dare Hall examines ground rent funds as an alternative investment to the ailing buy-to-let market

To your average leaseholder, ground rent means little more than the nominal amount, usually about £50, paid each year to the owner or freeholder. But rather meatier amounts are involved when you're talking about ground rents as an investment.

To your average leaseholder, ground rent means little more than the nominal amount, usually about £50, paid each year to the owner or freeholder. But rather meatier amounts are involved when you're talking about ground rents as an investment.

Buying units in a ground rent fund - a company who buys the freeholds to buildings and receives the ground rents paid by the property's leaseholders - offers a low-risk, long-term investment, not dissimilar to a long-term bond.

And, like buy-to-let, where your money benefits from income and capital growth, investing in ground rents sees a steady flow of income from ground rents into the fund as well as from capital growth when, for example, a leaseholder wants to extend or buy their lease. Then the freeholder can charge a lump sum payment, all of which means the division of more money for the investor in the fund.

Close Brothers' Freehold Income Trust (FIT) is the best-established ground rent fund, running since 1993. It owns the freehold to 45,000 properties, usually with leases between 99 and 999 years, and over the past 10 years claims an average return of 9.78 per cent. A minimum investment of £1,000 is required and you must apply through a financial adviser.

Investment adviser Nigel Walker from Gee & Company describes such ground rent funds as "specialist, very niche" for the more experienced investor, but adds: "If you invest in ground rents, you have a long period of assured income. It's a very attractive, secure income stream for individuals.

"Getting access to ground rents for private investors is not easy - you'd need to be a fairly clued-up individual - so by investing in a fund, you let it do all the hard work. Close Brothers is the most obvious one as [the firm] has an 11-year track record, is a decent size and is still open to new money."

The Brandeaux Group, in conjunction with Friends Provident International, has similar ground rent funds, with target returns of 9 per cent per annum, but they are now closed.

Such funds do not actually want to be awash with investors' money, Walker explains. "They like a steady drip of income. Over the last couple of years this kind of investment has proved very popular. Whereas an equity manager gets a big dollop of money he can move it around, ground rent funds have to source the investments and then go through all the legal rigmarole. It can take a long time to invest if a large block of money comes in."

Potential investors should also be aware that the FIT has unregulated status, "so if you have a complaint the usual compensation isn't available," Walker says. "You can also find that because it's a property contract, liquidising your funds isn't as quick as you might like. Close Brothers has a monthly dealing facility, which isn't too bad, but if you need your money tomorrow you can't have it."

Also beware of the charges. "It takes a lot of work sourcing property so you have to appreciate that there is a higher charge for their management of the fund. The Close Brothers' official charge of 6 per cent is towards the top end and the annual management charge is 2.25 per cent, which is quite high. A unit trust would charge around 1.5 per cent," says Walker.

But he believes the fund is suitable for a number of different investors. "It's available to certain pension investors, if you have a Self Invested Personal Pension, and it's good for more cautious individuals or those with a diverse portfolio who want something reliable and different.

"Returns are consistent - ups and downs will only be by about 0.2 per cent either way - unlike an equity-based fund, which can lurch substantially."

The benefit of Close Brothers, says Walker, is it has had the same people in charge for 11 years and it has delivered the goods.

As an alternative to the ailing buy-to-let market, Walker concurs it's a good one. "It's just a shame that the ground rent fund market is so limited. You don't have 15 or 20 funds to look at. But as an income stream it's extremely safe."

Close Brothers Investment Ltd 0207 426 4000; www.closeinvestments.com