Rent reviews became common in commercial leases during the 1960s.  Inflation was becoming a permanent feature of the economy and rent reviews were seen as the mechanism whereby landlords could draft relatively long leases without suffering the penalties of having a rent far below the true value of the building in the later years.  Initially rent reviews were seen only in very long leases where they were often at intervals of 21 years.  However, they quickly became established at 7 and more recently at 5-year intervals.

Rent reviews in commercial leases are a completely contractual process and they are not regulated by any Act of Parliament.  So the landlord and tenant are completely free to agree to whatever terms they wish; something which is not true of every clause in a lease. However, they still tend to follow a similar pattern, dictated by a combination of custom, case law and standardised legal drafting. They almost never allow the rent to decrease although this has started to change recently.

Procedure

Often either the landlord or the tenant has to start the process by serving a notice on the other.  Occasionally a strict timetable has to be adhered to and failure to meet it may result in either the landlord losing the right to review or a tenant having to accept the rent the landlord has proposed.

There will normally follow a period of negotiation. All negotiations between the landlord and the tenant’s surveyors are carried out on a “without prejudice” basis.  This means that any communication is privileged in the legal sense. If the matter does go to Arbitration no details of the negotiations can be referred to or produced.

The negotiation phase can go on for several months particularly if only the landlord has the right to apply for the appointment of an Arbitrator – and does not do so.  In an ideal world negotiations would produce a settlement which is acceptable to both sides but in a minority of cases the matter is referred to Arbitration.

We have referred only to Arbitration but the lease may state that the person who is appointed to determine the rent, if it cannot be agreed, may act as an Expert instead.  Sometimes landlord can choose between the two. There are significant differences between the two, which are discussed later. Arbitrators and Independent Experts are referred to generically as ‘a third party’.

The application for the appointment is usually made to the Royal Institution of Chartered Surveyors and involves the payment (currently about £350) by the person making the application. It is quite common for this application to be made by one party or the other as part of the negotiation process – an indication that they are serious.

The application for an appointment of a third party does not preclude further negotiations.  Indeed it often acts as a spur to achieving a settlement.  It is not uncommon for the third party to be appointed and that person then to be asked to take no action while negotiations continue.

Once a third party has been appointed either the landlord or the tenant can insist that they act to set the rent as quickly as possible.  Normally rent review referrals are dealt with by both the landlord and the tenant’s surveyors making written submissions and counter submissions.

In all Arbitrations, and most referrals to Independent Expert, the third party has powers to award how the costs incurred in the procedure shall be paid i.e. by which party.  This is similar to a Court case whereby the one who is seen to have lost usually is asked to bear all of the other party’s costs.  This means that quite often the landlord and the tenant will serve “without prejudice save as to costs” offers (known as a “Calderbank offer” after the case in which the procedure was first established) on each other.  These letters will make an open offer to the other side to settle at a particular rent and are binding if accepted.  They cannot however be revealed to the third party until he has determined a rent. Following this the offers will then be produced and he will decide who should pay what costs.  Sometimes the liability for costs will be agreed between the landlord and tenant.

How the rent is assessed

The objective of a rent review is, usually, to assess what rent might be paid for the premises were they let in the open market at the review date.  This concept is known as the hypothetical letting. There are more exotic forms of review but they are unusual and we do not cover them here.

Insofar as the lease is concerned, one needs to distinguish between the actual terms of the letting (reality) and the hypothetical letting which is the assumed basis on which the transaction is deemed to be taking place.  The hypothetical letting assumes that the lease has come to an end but that both landlord and tenant have complied with all of their obligations.  Therefore it is necessary to look at the actual lease to determine what physically is assumed to be let and then at the rent review clause, in particular, to assess the terms of the hypothetical lease.

For the most part the review provisions will state that the hypothetical letting will be on the same terms, save as to rent, as the actual lease. Similarly if the review clause is silent on this issue then the Courts have interpreted that to mean that the assumed terms should be those of the existing lease.

Arbitrator or Expert?

An arbitrator is a quasi-judicial appointment. Procedure is governed by the Arbitration Acts and the rules of evidence apply.  Arbitrators, except in rare circumstances, reach a decision based only upon the evidence put before them. Most rent review arbitrations are conducted by way of written submissions but either party is entitled to ask for an oral hearing, which is usually conducted as a form of mini court with the arbitrator taking the role of the judge.

However, this is extremely rare. We estimate that less that one in every thousand cases is dealt with in this way. The chances of a hearing being requested are slightly higher however with large complex cases.

Surveyors who make a submission to an arbitrator are deemed to be expert witnesses.  This means that they must give an honest opinion of rental value and make clear if they are acting as an advocate i.e. putting forward their client’s side of the argument.

In the case of a referral to an expert matters are far less formal.  The parties are invariably invited to make written representations but ultimately the expert appointed is tasked with arriving at his own opinion of rental value.  There is no statutory procedure and much less scope for either party to delay matters.

The actual rent arrived by either method is unlikely to differ very much if both sides are properly represented.  In theory the reference to an expert should favour the party in whose direction the market is moving because an expert could take into account market sentiment where as an arbitrator should not.  A tenant who is not professionally represented would be at a disadvantage in the case of an arbitration.

The most major difference between the two is in the treatment of legal disputes and the additional powers an arbitrator has.  Arbitrators are not able to decide a point of law, as opposed to a point of fact or valuation, on their own unless the parties allow them to do so.  In theory a dispute on a point of law could go all the way to Court and once decided the arbitrator would issue his rental decision in the light of the Court’s decision.  In the case of an expert whilst the expert would almost certainly take legal advice, probably from a barrister specialising in the area, it is ultimately his decision whether to accept that advice or not.

An arbitrator also has powers of subpoena and can grant an order for disclosure. The former means that he can compel witnesses to give evidence. Disclosure means that he can order either party (or someone else for that matter) to disclose relevant documents.

After the review is settled

Once the rent has been set, either by agreement or by a third party, the tenant has to pay the new rent backdated to the review date.  Usually interest will be payable as well.