Due in part to the increasing importance of the "green agenda", Landlords and Tenants are being forced to rethink where the boundaries lie in terms of rights and obligations under new Leases.
Laurence Douglas offers a (non-exhaustive) list of the key issues which occupiers have at the forefront of their minds when agreeing Heads of Terms for a new lease (or lease renewal) of premises.
What is my repairing liability?
For a long time tenant occupiers of UK commercial property have blithely accepted the concept of the full repairing and insuring ("FRI") lease. This transfers almost all liability to the tenant to repair – and even rebuild – the premises. This may have made sense back in the days when 25/30 year leases were the norm. But when terms of 5 years or less are becoming increasingly common, it's right to ask why a tenant should take on potential liability to completely overhaul the roof of their building.
So, if there is any doubt about the condition of the premises, a photographic schedule of condition should be annexed to the Lease, highlighting any defects, and including a provision in the Lease that the tenant has no liability to remedy them. Even better, the overall repair obligation should be watered down so as to keep the premises merely in no worse condition than shown in the schedule.
And where there is a service charge it's legitimate to consider whether the tenant's liability should be subject to an annual cap.
Should I have to remove alterations at expiry?
It's commonly accepted that any alterations introduced by a tenant during the term should be removed at expiry – and the premises returned to shell condition. But is it responsible – and in line with ESG considerations – for a tenant to rip out and discard its fit-out in a skip, only for a new incoming tenant to reinstall a brand new set of fitting-out works?
The Landlord should be asked why they can't adopt a more collaborative and environmentally responsible approach – requiring strip-out only when needed to secure a new letting.
What are my responsibilities for Energy Performance?
Occupiers need to be aware that the law in Scotland and England differs in several important respects here. In Scotland, there is presently no prohibition against granting leases of premises below a specific energy rating. However, since 2016 Scottish premises which are larger than 1,000 sq metres may be liable to comply with an "Action Plan" – requiring a list of works to be carried out to improve the building.
The theory behind these requirements is that most (but not necessarily all) the works should pay for themselves within 7 years. But an obligation of this nature will therefore see the Landlord gain from capital improvement from a tenant who won't see the full benefit – especially if their lease is short-term only. There's therefore a discussion to be had whether the tenant should be liable for this cost – at least in full.
What about statutory developments?
Again, having regard to ever shorter lease durations, we're aware of some tenants who aren't prepared to accept the risk of liability for improvements following legislative change. For example, it's suspected that the 1,000 sq metre threshold referred to above may be subject to downward revision, bringing a greater number of properties – and occupiers – within the scope of the legislation.
The potential range of improvements required by new legislation is unlimited but the same considerations apply – why should a short-term tenant be liable, for example, to replace the cladding on a building which no longer complies with statute?
We're aware of some occupiers who are refusing as a matter of course to accept liability for works required by changes to legislation made during the term of the Lease – instead requiring that this should be an obligation on the owner.
How easily can I get out?
Shorter durations inevitably provide greater flexibility – but even a five year term may be too long.
Break options can be valuable – and occupiers may be prepared to pay a penalty. It's common that the break should be conditional on rent being up to date, but arrears of any other payments should only prejudice a break if plenty notice has been given without payment being made. And compliance with the lease should never be accepted as a precondition of the break – a landlord shouldn't be able to found on a minor dilapidation to stop the tenant breaking the lease.
Alternatively a tenant may wish to assign or sub-let. It's reasonable that an assignee should be able to demonstrate that they can fulfil the tenant's obligations – but clauses requiring that the incoming party is of no lesser covenant should be resisted. And covenant tests aren't appropriate at all in sub-lettings of Scottish property.
Lastly, beware of Heads of Terms which require a sub-lease to be at not less than the current rent under the Lease. If market rents fall below this level, any sub-lettings are going to be frustrated.
If you have any queries on this, or any other real estate matter, please email Laurence Douglas or your usual Brodies contact.
