Understanding the Key Clauses in a Commercial Lease

There are many key clauses in a lease and this article provides a brief introduction to those you need to be aware of when negotiating a lease.


Understanding the Key Clauses in a Commercial LeaseAppointing a solicitor may be seem like an extra cost but having a legal eye review the clauses on your proposed tenancy could save you time, money and inconvenience in the future.

Please bear in mind that this list is not exhaustive so please seek legal advice.

HEADS OF TERMS

Recording the main terms of the lease before the document is prepared can help prevent any misunderstanding about what the lease will contain. Heads of terms reflect the deal reached between the landlord and the tenant, so that the lease can be prepared. Getting it right at the beginning means that the landlord can plan the rental income he will receive, know when he will get the property back and inform the tenant(s) of what he expects from them. Heads of terms are usually prepared by the landlord and are specific to each lease and property.

Although not legally binding, heads of terms show the intent of the parties but do not legally enforce them to go on and complete the lease. Either party can still change their mind and not enter into the lease. The Heads of terms will outline the key points in the Lease such as: Tenant details, Rent, Term, Permitted Use, Rent Deposit and Security of Tenure, some of which are explained below.

RENT REVIEW

The longer the lease the more likely there will be a Rent Review during the term of the Lease. The reviews can be complex and come in a variety of forms. The most common are upwards only open market rent reviews. It is essential that you are aware of such a clause and the potential increase in rent during the course of the term. The frequency of the rent review is also up for negotiation and you do not want to be having a rent review frequently.

THE TERM

Planning the length of the Lease term is also a point to ponder. You need to think about your commercial objectives and whether you are committing yourself to the right length of term. For example it would not make sense to commit yourself to a long lease term if your long term plan was to move location or if you need more/less space. An additional point to think about is whether if you are set on the location and your business was to thrive, - have you got the right to stay on and renew the lease? If there was an agreement to “contract/opt out” of the Landlord and Tenant Act 1954 then there is no automatic right to stay at the end of the lease. Having that protection would mean that you have a right to request a new lease and the landlord can only refuse on certain grounds.

Added to this, Stamp Duty Land Tax (SDLT) also needs to be taken into consideration. SDLT is an important factor in commercial leases, as the amount of duty is directly related to the length of term so the longer the lease, the more SDLT is potentially liable. Further where a tenant remains in possession after the end of a fixed term, a further charge to SDLT may arise.

SDLT will be assessed on any premium paid and also on the rent. It must be paid within 30 days of completion of the lease.

The amount of SDLT payable on the premium is assessed in the same way as on a purchase of land.

In relation to the rental element of the leases, SDLT is payable at a flat rate of 1% on the “net present value” (NPV) of the total rent payable over the term of the lease. Where the NPV of the total rent does not exceed £150,000, no duty will be payable.

Use the Government's SDLT Calculator for non-residential and mixed use land.

SERVICE CHARGE

You may be required to pay a service charge. Make sure you have an estimate of the likely costs as this will affect your outgoings. These are your share of the fees that are required to cover the cost of maintaining the building, repairs to shared areas and/or services provided by the landlord. The extent of the services provided will be in the Lease and a solicitor will be able to advise if there is anything onerous or omitted.

BREAK CLAUSE

A break clause can be included in a fixed term lease allowing either the landlord or the tenant to terminate the lease early. The right to break may arise on one or more specified dates or it may be exercisable at any time during the term on a rolling basis. It is important to understand that with any break clause in the Lease there is uncertainty for your tenancy and more crucially your business, so making sure you receive the right commercial advice for your business plans is essential or else you could find yourself effectively homeless.

Break clauses are a hot bed of litigation so it may be worth considering whether an option to renew the Lease would be better. An option to renew would also allow you to spread the SDLT payments.

ASSIGNMENT

Assigning (transferring/selling) a commercial lease, where the entirety of the existing lease is transferred to a third party is one of the ways tenants can end a lease early. However you need to be careful as a lease may prohibit assignment or require the landlords consent. Once assigned you usually continue to be responsible for the incoming tenant’s ability to comply with the terms. You will need to make sure you ask for references, bank details and professional references as a minimum from the incoming tenant. The ability of a new tenant to pay rent will be high on a list of landlord priorities when deciding whether to give consent. A rent deposit is usually a good start. A landlord can also insist on a guarantor if there is uncertainty and he/she may be included in the Licence to Assign to back up the obligations of the assignee.

REPAIR and INSURANCE

Many heads of terms provide for a full repairing and insuring lease but many tenants do not fully understand the obligations that can arise from this. This is a lease where the tenant is obliged to bear the costs of all repairs and insurance for the full extent of the property that he/she is taking on and can mean that the tenant is obliged to hand back the property at the end of the term in ‘nearly new’ condition.

The landlord will almost invariably take out the insurance itself and pass the cost onto the tenant as insurance rent. In the case of a multi-let building, the landlord will carry out the repairs to the common parts and recover the costs through a service charge.

Landlords will push for this type of lease but as a tenant you may be taking on big and expensive risks. Typical risk factors include chimney, roof, structural movement and cracks, damp and possible asbestos related risks.

It is important to negotiate and limit your liability. It may be an idea to agree only to full repairing of internal areas that you actually occupy or you could negotiate an overall financial cap on your contribution. It is also prudent to make sure that you have a detailed schedule of condition at the beginning of the lease term so if there was a dispute this would clear any misunderstanding regarding the state of the property at the outset.

Further reading

Commercial Property and Conveyancing

Commercial Contracts

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