It is in the interests of the landlord and the tenant that a commercial lease sets out details of the insurance terms in full. If there is no commercial lease insurance clause there is no obligation to insure the property, resulting in problems for both parties.
Who is responsible for insuring a commercial property?
In most cases the landlord will arrange the insurance for a commercial property to ensure their assets and interests are sufficiently protected.
In rarer circumstances, if a tenant is leasing an entire building, paying minimal ground rent and a large premium they may seek to arrange the insurance themselves. This is however uncommon as most landlords want to maintain control of the levels of cover.
A landlord will usually look to recover the full costs of insurance from the tenant through a commercial lease insurance clause. Landlords may seek to be reimbursed for insurance premiums for a wide range of cover including public liability, demolition costs, site protection/clearance, professional fees and insurance for loss of rent. Tenants will want to take steps to ensure these costs are ‘reasonable and proper’.
Under a commercial lease insurance clause, the landlord’s obligation to insure will generally be held to be subject to factors imposed by the insurers, including availability on agreeable terms. These will include for example limitations, exclusions, conditions and excesses.
What premises should be insured?
If a tenant is leasing an entire stand-alone building the landlord’s insurance covenant will refer to the premises as defined in the lease. If the lease is part of a building the landlord should be required to insure the entire building. It is important for tenants to ensure this or there is a risk that parts of the building could be damaged or destroyed and with no obligation on the part of the landlord to rectify it the tenant could left unable to access their leased premises. Tenants who lease a stand-alone building should be aware of any parts of surrounding estate that could impact on their rights of access.
What risks should be insured?
A commercial lease insurance clause should state the landlord must insure against specified risks such as fire, storm, flood, explosion, lightning, impact by vehicles and earthquakes. It will also usually add “any other risks against which the Landlord decides to insure”. Tenants will want to ensure this list is comprehensive as uninsured risks will the responsibility of the tenant to repair. It can be a balancing act for a tenant to weigh up adding these risks against any increased cost of premiums.
Property damaged/destroyed by an insured risk
If a property is damaged by an insured risk the commercial lease insurance clause should state that the landlord will use the insurance monies received to reinstate the property. The clause will often be caveated so the landlord is not obliged to carry out the works until they have received the money and necessary consents for the work. Landlords will also often seek to state that they do not have to provide identical replacement facilities as long as they are reasonably equivalent to those damaged or destroyed. When negotiating an insurance clause tenants should look to ensure the landlord is obliged to use reasonable endeavours to obtain insurance money and consents as soon as possible and cover any shortfalls.
If a tenant has not paid the insurance monies to the landlord or if the insurance policy has been vitiated by the tenant of anyone under the tenants control the landlord will not be obliged to rebuild or repair the property. The commercial lease should also detail use and occupation restrictions that the tenant must comply with.
Property damaged or destroyed by an uninsured risk
If a property is damaged or destroyed by an uninsured risk a landlord is not obliged to repair or rebuild it – as long as they have not failed to insure the risk in breach of covenant. The liability to repair the property will depend who is detailed as responsible in the repairing covenants of the lease. For areas where the landlord is responsible – i.e. damage to the main structure – the landlord will cover the costs and often seek to recover this through service charges. If the tenant is detailed in the repair covenant as responsible they must repair the property at their own cost.
Is rent still payable if the property is damaged or destroyed?
There may be some cases where rent must still be paid in these circumstances, it is dependent on the lease. If the damage or destruction was caused by an uninsured risk the tenant will usually still be liable to pay rent – regardless of whether they can use or occupy the property.
In most cases a lease requires a landlord to insure loss of rent for a set period – this is commonly three years. If the property is damaged or destroyed by an insured risk and is left unfit to be used or occupied the lease will normally state rent will be suspended for the period for which loss of rent insurance was obtained until the property is made fit again.
It is important for tenants to try to ensure the reference in their lease to “fit for occupation and use” is specified as “for the permitted use”. If this specification is not included there is a risk the property can be said to be fit for use even if it can’t actually be used for the intended purpose – and rent will become payable. Tenants should also attempt to have reference to any means of access included.
Landlords will sometimes also insure against loss of service charge but this is rare as premiums are often so high they are prohibitive. When property is damaged or destroyed it is therefore usual for tenants to still be liable to pay for service charges as the landlord may still incur costs related to the building or the surrounding estate.
What if the property can’t be reinstated?
There will usually be a covenant that allows a landlord to terminate the lease if the property cannot be reinstated. There may be a qualification that this can be applied if the landlord considers it is impossible or impractical for the property to be reinstated. In other cases it can be time-dependent and come into force if the property has not been reinstated at the end of the period for which loss of rent has been insured.
Not all leases contain a provision allowing a tenant to terminate the lease if the property cannot be reinstated. Tenants should try to ensure this right is included in a lease to avoid paying rent for a property they cannot occupy. The tenant may not be able to exercise this right to terminate the lease until any period loss of rent insurance has expired. A tenant will usually be unable to terminate a lease if they or others under their control have not complied with obligations of the insurance.
Who will the insurance proceeds belong to if the lease is terminated?
A lease will normally state that these belong to the landlord but if a tenant will contribute significantly to the premium they should attempt to amend the lease to state the premiums should be shared.
Take legal advice on a commercial lease insurance clause
Insurance clauses are an important part of commercial leases and navigating them can be complicated. It is vital for both landlords and tenants to ensure their interests are protected in commercial lease insurance clauses and the best way to do this is to speak to a legal professional. An expert can help you assess possible risks and future proof your interests.