This is a brief guide to commercial leasing practice in England and Wales.  Scotland operates a separate legal system, although there are many similarities and not all of the laws affecting land and buildings cover the entire UK. It is not comprehensive and you should always obtain professional advice before entering into any contract to rent land or buildings.

• What is the Tenant responsible for?
• How long a lease will I have to take?
• How is the rent calculated?
• Will I get a rent free period at the start of the lease?
• What are rent reviews?
• What happens if I don’t need the property any more?
• Can I alter the property to suit my business?
• What other terms will the lease contain?
• What happens at the end of the lease?
• How much will I spend on maintenance?
• Rates
• Value Added Tax
• I have agreed to take a lease – what now?

What is the Tenant responsible for?

Much of the law and convention that exists today grew out of the custom of granting ground leases, used to develop the great estates around London from the middle of the 18th century onwards.  A landowner would grant a long lease, typically 99 or 150 years, on a tract of land to a builder.  The builder would then construct houses on the land and then underlet to recoup his investment.  The tenant would be under an obligation to keep the buildings in good repair and at the end of the lease, both land and buildings (the property) would revert to the landowner (freeholder).

Thus, the typical lease has never been seen as a contract whereby a building owner provides a service to an occupier but one intended to provide the landlord with a reasonable return on his capital invested in the land and buildings with the tenant taking responsibility for all of the costs and risks over and above that.  This has evolved into a form of commercial lease known as the Full Repairing and Insuring (FRI) lease.  Under such a lease, the tenant’s responsibilities are myriad and will include insuring the premises and keeping them in good repair. The landlord’s obligations are very limited and quite commonly extend to no more than undertaking not to interfere with the tenant’s occupation.

In larger multi-occupied buildings, this form of lease is not practical and a variation is used whereby the tenant is only actually granted a lease of the interior of that part of the property they will occupy.  The exterior and any common areas and services remain under the direct control of the landlord.  In such circumstances the lease will usually allow the landlord to recoup the cost of maintaining and repairing the exterior services and common parts and insuring the building by way of a service charge.  Financially, the effect is the same and this form of lease is commonly called an Effective FRI lease.

It is sometimes possible to agree with a landlord limits on the tenant’s liabilities by way of a cap on a service charge or by excluding responsibility for certain parts of the building.  Inclusive leases where the landlord is responsible for repairs and maintenance usually only occur where a landlord has decided to let an entire building on that basis.

In addition to the rent, the tenant will be expected to pay for all utility bills and rates, which are a UK property tax; rates are discussed in a little more detail later.

How long a lease will I have to take?

The length of the lease is purely subject to negotiation.  For offices, 3 to 10 years is the norm, with 10 to 15 years more prevalent in retail premises.  In the case of warehouse and industrial premises, leases of all lengths are negotiated, although longer than 15 years is now rare.  In all cases, leases tend to become longer when larger accommodation is involved, but leases in excess of 20 years are now quite rare, although some leisure operators will take 35-year leases.

How is the rent calculated?

The landlord will quote a rent based upon a rate per square foot (or metre) applied to the floor area of the property.  In the case of factories or warehouses the Gross Internal Area ‘GIA’ will be used. This is the area inside the external walls without any deductions.  For shops and offices the Net Internal Area will be used whereby non-usable areas e.g. stairs, toilets and some corridors are deducted from the GIA.  In the case of shops the Net Area will then be Zoned to enable a comparison between the trading potential of different shaped shops to be made.  We produce a separate document explaining retail Zoning in detail.

Will I get a rent free period at the start of the lease?

It is usual for a tenant taking a new lease to be able to negotiate a rent-free period, or perhaps a reduced rent for a time, at the beginning of the lease.  This is often stated as being for fitting out purposes but it is no more than an inducement to take the lease and may bear no relation to the actual period fitting out is likely to take.

The customary amount of rent free varies between different market sectors and usually depends upon the length of lease, the rent and the financial status of the tenant. If the financial status of the tenant (known as the covenant) is strong enough, a capital payment might also be negotiated.  Occupiers, though, need to be wary of agreeing to pay a rent above market levels in consideration of a long rent free period or capital sum as this can leave them at a substantial disadvantage if the market deteriorates.

What are rent reviews?

Any lease in excess of 5 years will customarily have a rent review, either at 3 or 5 yearly intervals, that allows the landlord to revise the rent to a market level.  Such reviews are invariably upward only so the amount paid will not go down even if rental levels in an area fall.  The Government has been putting pressure on the UK property industry to make a change to this practice but it has not had any effect so far and, in reality, few landlords will agree to downward reviews.  If the landlord and tenant cannot agree a fair rent, at review, then the amount is decided by arbitration.

What happens if I don’t need the property any more?

Unless the ability to terminate the lease early has been negotiated (a break option) the only option will be to assign the lease or sublet the property. Most leases allow the tenant to either assign or sublet the whole property but never to assign (and not necessarily to sublet) part.  Where subletting of part is permitted, there are frequently additional conditions governing the total number of subtenants; which parts may be sublet; or the terms of the subleases that may be granted.

In the case of an assignment, the original tenant will typically be required to provide a guarantee (called an authorised guarantee agreement – AGA) that the new tenant will honour its obligations.

Can I alter the property to suit my business?

Most leases allow the tenant to carry out alterations as long as they obtain the landlords consent and oblige the landlord to be reasonable about giving consent. It is quite common for this right to be restricted to internal non-structural alterations.

Anything more than minor alterations may require a formal Licence for Alterations to be drawn up by solicitors including the fitting out works at the beginning of the lease.  The tenant will usually have to undertake to return the premises to their original condition at the end of the lease, if the landlord requires it.

What other terms will the lease contain?

Landlords and tenants are completely free to agree whatever terms they wish although a clause would not be enforceable if it infringed the legal protection granted to all tenants under the law.  Inevitably, landlords try to retain a degree of control by placing restrictions on the use of the premises or to whom it may be assigned or underlet, but if these restrictions are too onerous, they will affect the rent the landlord is likely to receive at rent review or on renewal - so most landlords are reasonably commercial about this.

What happens at the end of the lease?

Leases of business premises longer than a year automatically have security of tenure.  At the end of the lease, the tenant has the right to a new lease for up to 15 years on terms similar to the old lease but at market rent.  There are certain circumstances in which the landlord can prevent the tenant exercising that right, e.g. if he wishes to redevelop the premises, but otherwise if the landlord and tenant cannot agree a new lease, then a court will grant a new lease on terms it considers are reasonable under the circumstances.  It is possible for the landlord and tenant to agree at the outset that the tenant will not have this right to renew.  This is called ‘contracting out’ or taking an ‘excluded lease’.  It is quite common to do so in the case of small to medium sized office suites in multi-let buildings, but rare in the case of shops or industrial and warehouse premises

When the tenant eventually leaves they will normally have to return the premises to the landlord in good repair and, if the landlord requires, put back to the original specification, i.e. with any alterations reinstated.  This liability for repairs, called dilapidations, can be substantial at the end of the term – if the work is not done the landlord can seek damages.  If the premises are in a poor condition at the outset, however, it can be limited somewhat by arranging for a Schedule of Condition to be prepared and attached to the lease. The tenant’s obligation is limited to maintaining the premises in no worse a condition than that demonstrated by the schedule.

How much will I spend on maintenance?

In the case of a lease of the entire building, the tenant’s likely outgoings on repair and maintenance are under their own control.  Providing that they obtained a professional condition survey before taking the lease they should not be expecting any major expenditure.

Where expenditure is under the control of the landlord by way of a service charge, the position is less certain.  Service charge clauses in leases have to be fairly widely drawn to enable a landlord to undertake his duty to maintain the building effectively.  This latitude can be abused and because the tenant is ultimately paying the service charge, there is little incentive for the landlord to keep costs under control until the level of service charge deviates so far from the market norm that it starts to have an impact on the rent the landlord is obtaining at review or on new lettings. There is also every incentive for the landlord to try and get works of improvement to the building classed as maintenance or repair.

The level of service charge varies enormously from building to building; for modern UK offices they typically range between £5 and £10/Ft².  Air-conditioned buildings tend to be at the upper end of the range.  The service charges levied on shops and warehouses are much lower; in the case of, for example, warehouses, they are often limited to maintaining landscaping and common parking areas on an estate and can be as little as a few pence per square foot.

Rates

Rates are an annual tax levied on all commercial property and likely to be the most significant cost after rent.  The amount payable is calculated by multiplying the Uniform Business Rate (which is set for the whole country) by the rateable value.  The rateable value is the rental value of the property as assessed by the District (Government) Valuer.  For various reasons, the relationship between the rental paid on a property and the rates paid is not always consistent but typically it would be between 25% and 45% of the rental paid.

Value Added Tax

Most landlords charge VAT on rent; but not all.  If a tenant is VAT registered it makes little difference but organisations that cannot reclaim VAT should check the VAT status of a building at the outset.

I have agreed to take a lease – what now?

Once outline terms have been agreed and the prospective tenant knows how extensive his obligations to repair the building are going to be, he can decide whether to commission a condition report from a building surveyor.  At the same time, the landlord’s letting agents will normally have prepared a Heads of Terms document.  This is not a binding contract, it is merely a statement intended to record what both parties understand should be translated into a lease.

If you are unhappy with any aspect of the Heads of Terms you should raise it with your advisers or the landlord’s agents before it is sent to solicitors.  There is nothing to prevent you trying to renegotiate an item on the heads of terms at a later date indeed, if new information came to light, it would be expected.  But, in the absence of any change in circumstances, attempting to renegotiate the agreed terms at that stage is often seen as bad faith.

The landlord will then submit a draft lease to your solicitors, which they will amend and then return to the landlord solicitors for their comment.  This “travelling draft” will shuttle backwards and forwards between the two solicitors, with the solicitors discussing any significant points with their clients until it reaches an agreed form.  In most cases where both parties are being reasonable, this process may be completed in a few days, but in large complex lettings, it is not unusual for it to take several months.

There will be an amount of stamp duty land tax to pay on completion of the lease.  This can be a significant amount of money, particularly if a long lease is being taken.

Sometimes a landlord will allow access under licence so that a tenant can start fitting out before the lease is finalised.  However, this is not really a solution for larger complex buildings as there is no obligation on the landlord to complete the lease and a tenant who has spent substantially on fitting out can be held to ransom.

Where there is a matter outstanding beyond the control of either party, such as planning consent, it is possible for an agreement to lease to be documented.  This states that a lease will come into effect once certain criteria have been fulfilled.  It is a binding contract that neither party can rescind unless the specific matter cannot be resolved.