With recent unwelcome trends with inflation, it is easy to see why a Landlord wants to ensure that he or she is not tied to the same rent throughout the duration of a lease. And while there has been a general move over the last few decades of commercial leases shortening in duration, fluctuations in the market mean that a rent which today generates a high yield can quickly fall behind those generated under new leases.
Landlords have therefore routinely included clauses in leases providing that, generally every five years (but sometimes more regularly) the rent will be reviewed. It used to be common for leases to provide that landlords served the tenant with notice of the proposed new rent, giving the tenant a fixed period in which to dispute the proposal failing which they would automatically be bound. Needless to say, these provisions generated a great deal of litigation and are now rare. However, anyone who occupies premises under an older lease should be careful to check that such a regime does not apply to them – the law books are full of cases of tenants who have found themselves becoming unstuck due to a simple administrative oversight!
Given the vagaries of the property market, reviews linked simply to the Retail (or Consumer) Prices Index tend to be unusual (although are not unheard of). Far more common is the concept of the "hypothetical lease" – requiring the rent to be valued as a fictional lease - with certain assumptions and disregards – and having regard to rents for comparable properties in the locality. Rent reviews are nevertheless almost universally required to be "upwards-only". While it's often predicted that market practice will change on this – we are yet to see it!
The usual assumptions include that the parties are both willing to enter a lease for the property, it is vacant, no premium is payable by either party, the lease has a certain period yet to run and that neither of the parties are in breach – some or all of which may not reflect the position in reality. Beware, in particular of the last of these assumptions. While it is quite reasonable that a tenant should not be able to rely upon its breach so as to lower the value of the rent, it is unfair that a landlord should be able to ignore a consistent failure by it to meet its own obligations e.g. to carry out certain common repairs.
Beware also of landlords who want it assumed that certain "unfavourable" clauses e.g. restrictions on alienation, or a break clause in favour of the landlord, don't exist under the hypothetical lease. Generally, it's preferable to reflect reality as much as possible.
On the other hand, certain matters should be disregarded e.g. the fact that the tenant is already in occupation and any goodwill which has been generated. It is also very important to ensure that any improvements carried out at the tenant's expense are ignored – a tenant should not find themselves liable for more rent because of expensive works which they themselves have carried out! Note that leases will generally only disregard works carried out with the landlords' consent – this is an additional reason for tenants to ensure that they have obtained the necessary approvals prior to embarking on costly alterations.
As mentioned above, reviews linked to RPI/CPI are not the norm. However, it is not uncommon for a tenant to seek a cap. However a landlord who is amenable to this may nevertheless require a collar too, so that the rent increases at least by say 1% per annum, compounded annually.
A couple of specific points are worth bearing in mind. Firstly, note the interaction between rent review and sub-letting. It's common for landlords to say that a tenant must not sublet their premises at less than the current passing rent. After all, they know that the best comparable evidence for the rent of their property is a (sub)lease of the property itself! And so they do not want to see any such sublease granted at a rent which exerts a downwards pressure at a future review under the head lease. However, in a depressed market – and given the upward-only nature of rent reviews - such a clause is likely to make it impossible for a tenant to dispose of the property.
Secondly, note that Land and Buildings Transaction Tax – the Scottish version of stamp duty – requires the submission of three-yearly returns to update Revenue Scotland of any changes to the lease. Again, given that rent reviews are upward-only, this is likely to require payment of additional tax. This is different to the position in England & Wales, where SDLT is calculated only on the initial rental value.
This article is just the briefest of introductions to what is a complex subject. Should you have any questions or concerns, please don't hesitate to contact Laurence Douglas or your usual Brodies contact.
