A commercial lease sets out the contractual relationship between the owner of the property (the landlord) and the occupier (the tenant). The content of the lease will vary depending on the type of property type, its physical condition, the relationship between the landlord and tenant and the property market.
Negotiating favourable lease terms is crucial for commercial tenants but the terms can be complicated to navigate without legal guidance.
There are a number of key areas that most commercial leases will cover, including price, term, repairs and dealings.
Price
A commercial lease will detail not only the rent payable on the property but also any extras including service charges, insurance premiums and VAT. If a lease lasts longer than five years it is likely there will be provision for a rent review included.
Rent reviews can be complex and varied. The most common type of rent reviews are ‘upwards only’, this means the rent will never decrease even in a recession. Some rent reviews do allow upwards and downwards review but these leases are often more expensive. The frequency of the rent review can also be negotiated in the lease.
Term
A lease gives a tenant the right to occupy the property for an agreed length of time – provided they comply with the lease. Tenants should consider carefully the length of their lease and how it fits with their commercial objectives, a longer lease gives security but also ties the business to that location.
Break clause
A break clause is an option for tenants who want the security of a long lease but with the flexibility to terminate the lease early. This flexibility does usually bring with it higher costs and a level of uncertainty as the break clause gives both the tenant and landlord the option to terminate the lease either on specific dates or at any time in the contract.
Extending the term
The Landlord and Tenant Act 1954 gave commercial tenants the statutory right to remain in the property once the term has expired and the right to apply for a new lease.
The landlord can resist this request if they need the property for their own occupation or if they want to redevelop it. In these cases the tenant may be owed compensation.
It is possible for the landlord and tenant to agree prior to the lease being granted that these renewal rights will not apply. Statutory notices and declarations need to be issued to exclude a lease from the 1954 Act. Most tenants find the right to renew extremely valuable and you should think carefully before agreeing for this to be excluded from your lease.
Stamp Duty Land Tax
Stamp Duty Land Tax is also a factor when considering the lease term as the amount of duty payable is directly related to the term. The longer the lease, the more tax a tenant will potentially have to pay and there may also be additional payments due if a tenant remains in the property at the end of the fixed term.
Repairs
It is common in lease negotiations to be offered a ‘full repairing and insuring’ or FRI lease. If you take on an FRI lease you will be obliged to not only keep the property in good repair but also remedy any existing disrepair.
Before agreeing an FRI lease it is important to commission a survey of the property that will highlight any major repairs that may lead to a reduction in rent or repair responsibilities. If disrepair is found it is also possible to agree a schedule of condition which records the condition at the start of the lease.
An alternative to the full FRI lease is “an effectively FRI lease”. With this type of lease the landlord will be responsible for structural and exterior repairs but can claim the costs back from the tenant.
You may also be expected to re-decorate and replace furniture, carpets and plant equipment so it is important to understand the extent of your obligations when negotiating the lease.
A landlord may serve a tenant who does not comply with their repair or re-decoration obligations a ‘schedule of dilapidations’ which requires the tenant to return the property back to the agreed state of repair. If the tenant does not comply with this, a landlord can pursue a legal claim for breach of lease.
Dilapidation can be a grey area and the law is complex so you may wish to seek legal advice when negotiating this part of your commercial lease and if a dispute occurs.
Alterations
Most leases will specify what types of alterations can be carried out by the tenant – the shorter the lease the less alterations a tenant will generally permitted to do. Tenants will normally be permitted to alter the interior but not the exterior or structure of the property. A lease will often contain a clause requiring the tenant to get landlord consent for any major alterations.
This consent is usually given through a ‘licence to alter’ that may require the tenant to comply with building requirements, insure the works and remove them when the lease ends. This document should be negotiated and can specify that the works are to be taken into account in the event of a rent review if the work has been paid for by the tenant.
Service charges
If the property is in a multi-occupied building the landlord will normally maintain the common areas of the property but will look to recover those cost in service charges. If the landlord provides other services such as heating, lighting, a reception service and lifts these will also be included in a service charge. Service charges can be a substantial cost for businesses and these provisions need to be carefully negotiated in commercial leases – it may be possible to limit charges by agreeing a service charge cap.
Dealings
Commercial leases often restrict the tenant’s ability to underlet or transfer the lease and in many cases this will be prohibited entirely. Non-transferable leases should be viewed with caution as they can leave tenants unable to move or sell their business.
If there is scope for transfer or underletting in the lease landlords will usually impose conditions that must be met. Careful negotiation is needed to ensure there is enough flexibility in the lease to allow the tenant to use these ‘alienation covenants’ if their commercial requirements change.
If you choose to transfer a commercial lease you will usually still be responsible for the incoming tenant complying with the terms of the lease. It will be your responsibility to ensure the tenant can pay the rent and you should ask to see references, bank details and consider requesting a rent deposit.
Legal advice and guidance
Negotiating commercial leases can be complex and parts of the Landlord and Tenant Act 1954 are often difficult to understand. Legal advice can help you negotiate a lease that has terms that suit your business needs. Engaging with a legal adviser at the start of the negotiation process can help ensure your interests are both protected and, in the event of any dispute, enforced.
