Acquiring Scottish commercial property - purchaser's insurance considerations

Acquiring commercial property in Scotland involves taking on several responsibilities, particularly when the purchaser will become a landlord. A key one is ensuring the property is appropriately insured.

A purchaser must ensure that the landlord’s lease obligations are known and complied with on and from the date they acquire commercial properties with existing leases. They may also have to meet any lender requirements. Here we address key insurance considerations when acquiring commercial property.

Who insures prior to completion?

The standard position under sale and purchase contracts for Scottish commercial property is that the seller insures up to completion of the sale, including the period between exchange of contracts (conclusion of missives) and completion. During that period, the seller should be noting the purchaser on their insurance. The purchaser then insures on and from completion. The contract should be checked to verify that, and the purchaser should ensure that the seller’s insurance is in place at the appropriate level and all premiums paid.

It is therefore imperative that the purchaser has its own insurance, compliant with the leases and facility agreement (if applicable), ready to go live on completion. Early engagement with the insurers is prudent, as the process of verifying the figures etc for the insurance can take time. The lender may also input into that process, which can impact on timescales.

Who insures – landlord or tenant?

The usual position is that the landlord (purchaser) insures the building and structure, with the tenant insuring its fit out. That said, some leases will be tenant insures leases. The purchaser should confirm who is responsible under the lease for insuring the structure, common parts, landlord’s fixtures, tenant’s fixtures, plate glass, loss of rent etc.

Where the purchaser will insure as landlord, it should check the leases to ensure its insurance complies and that premiums can be recovered from tenants. Where the tenant insures, the purchaser should obtain a copy of the insurance to verify that suitable cover is in place and all premiums have been paid. A purchaser’s lender is likely to want to see that verification too.

Reinstatement Value

The reinstatement value should be sufficient to cover demolition and site clearance, professional fees (architects, surveyors, etc.) and VAT, where applicable. Under most leases the landlord reinstates damage or destruction so it’s key that the purchaser’s insurance reinstatement provisions comply with the lease.

Insured and other risks

• Insured risks: the lease should be reviewed for the prescribed insured risks to ensure the purchaser’s insurance policy aligns. If the policy doesn’t, a landlord may be in breach of the lease leaving them liable for meeting the cost of making good damage / destruction by uninsured events.
• Tenant requests: where the lease allows tenant(s) to request additional insured risks, that should be verified in time to ensure that such additional risks are covered.
• Uninsured risks: the purchaser should be cognisant of any uninsured risk provisions in the leases, and generally for any risks that are not specifically covered. Uninsured risk damage may carry obligations under the leases to reinstate damage from the landlord’s own funds.
• Terrorism: commercial leases may include terrorism as an insured risk; or have additional provisions in relation to terrorism insurance or damage. Those provisions are coming under increasing scrutiny in recent years. An obligation to insure against terrorism has insurance cost implications depending on the use and location of the asset.
• Flood / climate change: with our changing climate, flood risk considerations are becoming more prevalent and flood risk surveys are increasingly common in investment acquisitions. Being fully aware of any potential flood risk and insuring against that requires consideration. Flood is commonly an insured risk under leases, so cover may be required to comply with the leases.
• Covid / pandemic insurance: whilst initially temporary arrangements were made during the Covid-19 lockdowns and restrictions, commercial occupiers – particularly leisure and retail tenants – are increasingly seeking business interruption insurance during pandemics. A prudent owner should consider whether they need such insurance too as part of their loss of rent and service charge insurance.

Use

• Current use: insurance policies are based on use. A mismatch between a declared and actual use could potentially invalidate a claim (e.g. a property insured as offices but used partly as a kitchen may not be fully insured if there is a kitchen fire). The tenant’s use should be verified and the purchaser’s insurance aligned.
• Change of use: if there is an intention to change use (e.g. converting office to residential), the insurer should be notified in advance. They may adjust premiums, impose additional conditions, or decline to insure meaning a new insurer is needed.
• Vacant periods: if the property is likely to be unoccupied for a lengthy period, e.g. between tenancies or during refurbishment, that may need additional insurance cover. Insurers may impose stricter conditions or limited; and/or require additional security measures and inspections.

Loss of rent and service charge

Most leases require the landlord’s insurance to cover loss of rent and service charge for a defined period, usually 3-5 years. This ensures income for the landlord if the rent is abated due to damage; and enables it to continue to meet its lending obligations. Again, leases should be checked to ensure the insurance is adequate.

Waiver of subrogation rights / joint insured

Waivers of subrogation means the insurer cannot pursue tenants or other parties for recovery of losses, even if they were responsible for the damage.

Many leases require the landlord to obtain a waiver of subrogation rights for the tenant and/or note the tenant and a lender as a joint insured (either generically or specifically). That may be a reasonable endeavours obligation, but it may also be an absolute obligation.

Other considerations

• Green or Energy-Efficient Insurance Products: some insurers offer “green rebuild” insurance options, enabling owners to rebuild to higher energy efficiency standards post damage or destruction. This can align well with landlord ESG goals and modern tenant expectations.
• Public liability, owners’, third party liability insurance: the purchaser should check the lease to ensure it has adequate public liability cover etc. in place, especially for any internal or external common areas.

Key Takeaways:

When acquiring commercial property in Scotland, don’t forget to consider insurance:

• check the seller has adequate insurance for the property prior to completion, and all premiums are paid;
• ensure the purchaser’s insurance is ready to go live on completion and is sufficient to meet:
  • the landlord’s obligations under the lease(s), and
  • any lender requirements; and
• engage early with insurers so there is time to complete the above so the insurance is live at completion.