DTM Legal’s Commercial Property Team takes a look at some of the lease clauses that can leave tenants most vulnerable.
Landlord v tenant – the imbalance
A company’s premises is one of its most important assets but it can become its greatest burden without due consideration to the terms it is occupied under.
The commercial lease is a creature of negotiation, much of its contents is dependent upon the bargaining power of each party. The Landlord will often have the upper hand in negotiations. This imbalance of power can leave an ill-informed tenant vulnerable to onerous obligations restricting business growth and profits whilst increasing the likelihood of litigation.
Costs – a brief point
A prime example of a landlord’s bargaining power is the insistence that the tenant must bear the legal costs of both parties. There is little basis for the inclusion of such a clause in a commercial lease. As a tenant you should make it clear from the outset that your offer to lease the premises is subject to each party being responsible for their own costs.
Term and termination
A lease is a wasting asset and landlords will seek to maximise its commercial value by securing the longest lease term possible. The certainty provided by a lengthy term is an attractive prospect for any landlord, especially if they are seeking to refinance or sell their interest.
A long term lease can also be reassuring to some tenants, allowing them to plan further ahead and justify the acquisition costs. Conversely the uncertainties of business can result in a long term lease becoming burdensome, as James Dyson said “Nobody wants the expenditure of a lease on a factory which lasts 21 years. You can’t plan 21 years ahead.”
This commonly held concern can be addressed with the inclusion of a break clause. Such a clause provides a middle ground, giving a tenant the option to terminate the lease whilst the landlord receives plenty of notice (usually a minimum of 6 months). Problem solved?
Not quite.
A properly drafted option to break will contain a number of pre-requisites, meaning a tenant will have to ensure:
- All the rents (not just the principle rent) due under the lease are paid. This is particularly problematic if the rent is payable in advance and the break date does not coincide with the rent payment date. If so the rent due for that rent payment period must be paid in full.
- There are no subsisting material or other breaches of the tenant’s obligations. A landlord can reject the notice to terminate the lease on the slightest of breaches. You must be certain you have not breached any terms of the lease and if any breach subsists it must be remedied before service of the break notice. Note that breach can arise from obligations to repair and decorate.
- The property must be left with vacant possession. It sounds obvious but the property must be free from all items belonging to you or any other occupier. The property must be reinstated to its original form, this includes any alterations made as well.
Even after compliance with these pre-requisites a break notice can be rejected by the landlord if it is incorrectly delivered. The requirements of notice outlined in the lease must be strictly adhered to.
Rental review
The rent review provisions can form a complex matrix of calculation and should be considered carefully. Rent reviews are the norm in longer leases and generally provide for a ratchet review every 3 or 5 years. The idea being that the rent will increase over time ensuring the landlord receives a rent reflective of the true value of the let property.
Usually negotiated as part of the heads of terms there are numerous different types of rent review, all of which can be varied and many combined to create a complex calculation.
Consider a review at market rent. This aims to set the rent at the value of the premises at open market. Whereas a turnover rent review is calculated in relation to a tenant’s annual turnover. Both types of review can result in substantially different levels of rent, and the rent review mechanism can combine both methods.
Even if your lease does not specifically contain rent review provisions it does not mean that rent will not increase, a growing number of leases contain stepped rent increases.
As a tenant, care should be taken when negotiating the features of a rent review clause to ensure there are no nasty surprises and the rent payable reflects the value of the property to your business.
Repairing obligations
Liability for repairs is one of the greatest causes of property litigation, often at the end of a lease term when a tenant is moving on. Before entering into a lease it is in the interest of all parties to ensure the repairing liability is clearly defined and understood and that it relates to the age, character and location of the premises.
A landlord will of course seek to impose wide ranging repairing obligations. It sounds obvious but tenants must ensure their responsibilities do not extend beyond the premises defined under the lease.
The level of repairing obligation should also be treated with caution. Seemingly natural language will often be used to describe a tenant’s liability, such as “to keep the property in good repair and condition”. On the face of it this is a low threshold suggesting maintenance of the current state and condition, think again!
The phrase suggests that the property is already in a good state of repair. This is a dangerous assumption as this might not be the case and can result in the tenant having to put the property in a good state of repair.
Secondly the obligation to keep the property in good condition raises the possibility that works are required even if the property is not in disrepair.
A tenant can seek to limit their liability by requesting a schedule of condition is incorporated into the lease. This means the tenant must only keep the property in the same level of repair as detailed in the schedule and it is not required to return them in a better state and condition than at the outset.
Ultimately a commercial lease should act as nothing more than a point of reference. Provided both parties’ needs are effectively communicated and subsequently reflected it will allow for an amicable landlord and tenant relationship meaning you can focus on your business.
For advice on Commercial Leases please contact Anna Duffy, Head of Commercial Property at anna.duffy@dtmlegal.com
