Nikki Bensoor looks at how heads of terms are changing in the pandemic, and how the government’s Code for leasing business premises could support commercial lease negotiations
As the coronavirus (COVID-19) cloud continues to hang over us, many commercial landlords and tenants have been obliged to renegotiate existing or agree new leases to include more ‘give and take’. The government’s Code for leasing business premises – which is compulsory for RICS members – aims to promote more balanced heads of terms (HOTs), including the following.
1. The extent of the property
This section of the HOTs should also include rights the tenant enjoys over the landlord’s estate to use the property. If the property forms part of a building, a plan should be attached.
2. Lease term and rights to end the lease early, acquire a longer lease or freehold interest
Occupiers are now more reluctant to be ‘locked in’ to leases and require more flexibility. For instance, some serviced office providers are renting space by the day or even the hour.
Parties can exclude the right to remain in the property at the end of a fixed term under the Landlord and Tenant Act 1954 (LTA 1954), although the implications should be carefully considered before doing so.
3. Rent and payment terms, rent-free periods and rent reviews
Leases with rents based on turnover are becoming increasingly popular with retail tenants in particular. The courts do not yet have jurisdiction to impose a turnover rent on lease renewals under the LTA 1954, although this may be a way for some landlords to retain their tenants in the future.
Traditionally, rent concessions were given to encourage “good” tenants to occupy or remain – especially those likely to fit out the property to a landlord’s longer-term advantage. Concessions may be extended to include rent suspensions or reductions if trading proves impossible in lockdowns – known as “COVID clauses”. Traditional upward-only rent reviews may have to be replaced by more flexible arrangements reflecting current trading conditions.
4. Rent deposit or guarantor requirements
Landlords are seeking additional security by requiring rent deposits (usually two to six months’ annual rent) and/or a guarantor. This requirement is likely to depend on the covenant strength of the tenant or any parent company, and should be agreed when the HOTs are negotiated.
5. Any service charge, insurance contributions or other outgoings
Tenant payments will need to be included in the HOTs. These contributions require transparency and certainty, and tenants will want to see how their charges are calculated. For certainty, tenants may also consider pushing for service charge caps.
6. Whether tenants can assign leases, grant subleases of whole or part, or share possession
Present conditions may necessitate tenants vacating part of the property or sharing possession. As a means of retaining some control, the landlord could require that the tenant requests specific consent on each occasion.
7. Repairing obligations and works
If the property is in poor condition, it may be sensible for both parties to agree a schedule of condition, including plans and photographs as evidence.
HOTs should specify works the landlord and tenant agree to undertake to the property at certain times. If works are to take place before term commencement, they may need to be documented in a separate agreement for lease.
8. Permitted use
From 1 September 2020, a new use class, class E, replaced traditional use classes A1 (shops), A2 (financial and professional services), A3 (restaurants and cafes), and B1 (business), as well as incorporating nurseries, health centres and gyms. A wider permitted use could increase or decrease the landlord’s control over the use of their property and impact present and future value. So it is crucial the planning use is clearly identified at HOTs stage and reflected in leases.
9. Rights to carry out alterations and reinstatement requirements
Planning permissions and/or building regulations approvals are required for certain internal and/or external alterations. Often, the landlord must give formal consent, but may allow certain works without permission, such as demountable partitioning. Landlords may require reinstatement at the end of the term, which should be clarified in the HOTs.
While the UK property market is going through such dramatic change, landlords and tenants need to work flexibly and transparently at the earliest stage and agree comprehensive HOTs, supported and complemented by the code, to avoid problems later. The code should help both parties understand their respective requirements and reduce the risk of future conflicts. Jaw-jaw must always be better than war-war, particularly at a time when access to the courts is so limited, and even remote in many cases.