Lurking Liabilities in Leases

The cost of premises is one of the most substantial outgoings for a business.  A business may factor in the rent and maybe also business rates, but there are other liabilities lying in wait for an unsuspecting tenant. 

Below are 7 tips on what you should consider before entering into any form of lease.  This may be a new grant, a renewal or the purchase (assignment) of an existing lease or renewing your business lease.

1. Consider a shorter lease term – The norm for commercial leases used to be 10, 15 or even 20 years.  Since the property crash in 2008, the average now is 5-10 years, often with a break at Year 3 or 5.  You should be aware that a lease of 5 years, rather than say 10 years, not only reduces your period of commitment, it also means that the amount of Stamp Duty Land Tax you have to pay will be less than for a longer term.  Furthermore, leases under 7 years do not have to be registered at the Land Registry so there is less ‘red tape’.

If you want the option to have a further 5 years for example, this can be built into the initial short lease.  However, there may be legal costs involved in implementing an option.

2. Negotiate a break clause – A break clause can provide flexibility and assurance if your business is changing.  A break clause means that you can end your lease by giving written notice to the landlord at a specified future date (or dates). This will usually be conditional on paying the rent and making sure you have complied with your other lease obligations.  If the break clause is not exercised, then the lease continues as normal.

Be careful though.  If you do decide to break your lease, you must serve a notice in the exact manner set out in the lease and ensure that you have complied with your lease obligations. Tenants can get this wrong, resulting in being left with the full liabilities for the remainder of the term.

3. Check the alienation clause – If your business needs to move on, make sure you can assign (i.e. sell) the lease or sub-let the property. Most commercial leases contain these so-called ‘alienation’ provisions but there are often detailed conditions to satisfy first.  On an assignment for example, the new tenant will have to demonstrate they are financially able to support the lease liabilities and you will usually be required to guarantee the performance of the new tenant via an Authorised Guarantee Agreement. You will also have the pay the landlord’s reasonable legal costs on considering and granting permission to alienate the lease/property

4. Rent review clause – It is rare, even in these times where Landlords are sometimes struggling to get good tenants, to see a rent review clause which is not upwards only.  Rent may be linked to an index, turnover or most commonly to open market values at the time of the review.  One advantage of the indexed rent is that it is simple to calculate and so does not involve having to instruct surveyors, valuers and sometimes lawyers.  You can try to get a review which is indexed up AND down, but with a “cap” on the maximum increase and a “collar” on the maximum decrease. 

5. Ask for rent-free periods – A rent-free period is not uncommon as a straight incentive.  It is more common if you are doing some fit-out works to the property.  During this time, not only are you not operational and so not earning, you are also spending money on the property.  If there’s a break clause in the lease, you could also request an additional rent-free period if you do not exercise a break.  This provides an incentive for the tenant to stay at the current property whilst saving the Landlord from going through the often long and painful process of finding a new Tenant.

6. Cap the Service Charge – Service charges can often add a substantial amount to the cost of a lease in addition to the basic rent.   Energy Efficiency works by the Landlord can often be re-charged to the tenant via a service charge.  You need to investigate what the service charge covers, whether any works are likely during you period as tenant and whether there is a sinking fund to help pay for capital expenditure.  Especially for a shorter lease, you can ask for the service charge to be capped during the lease term so that you know what the maximum amount is which you will be paying.

7. Limit the repairing liability – Most commercial leases contain fully repairing covenants which means that the Tenant must keep the property to an objectively high standard, even if it is not in good repair when you take it on.  This can have significant financial consequences.

You must consider the existing state of the property and the building (if it is part only) and whether you might need to spend money to bring it up to standard. 

If you are renewing an existing lease or taking one on by assignment, it is important to check back to see whether any alterations were made in the past.  At the end of the lease term, the landlord is usually able to require that you remove all alterations. 

Depending on the condition of the property, try and limit your repairing liability by reference to a schedule of condition, so that you don’t have to put the property into any better state of repair at the end of the lease term. This makes even more sense if you are only taking on a short-term lease.

And perhaps the most important tip is that you should always seek professional advice!

If you are a tenant or a landlord and require plain English legal advice on a commercial lease or any other property issue, then contact the Commercial Property team at Clarkson Wright & Jakes Ltd on 01689 887887.