Making your property work harder

Many leases contain an option for the tenant to terminate the lease on a fixed date. If your lease includes a break, this is a good way of offloading unwanted property. However, care should always be taken to ensure that the pre-conditions to any break option are strictly complied with.

Tenants usually have to give a number of months’ prior written notice of their intention to terminate the lease and time limits are strictly applied. In Orchard Developments (Holdings) plc v Reuters Limited [2009], a break notice could be served by letter to the landlord’s registered office or by another informal method provided the landlord acknowledged receipt. The tenant sent the letter to the wrong address and the fax arrived at the landlord’s office while it was closed, only being acknowledged after the date for giving notice had passed. As a result, the tenant failed to provide the requisite notice. Tenants should also check the notice provisions within the lease to ensure that the prescribed mechanics of giving notice are also perfectly clear. The tenant in The Hotgroup Ltd v The Royal Bank of Scotland PLC [2010] failed to serve a copy of the notice on the beneficial owner as required by the lease. The court declared the break notice ineffective.

There may be requirements for the rent and other sums to be paid up to the break date, and for the tenant to vacate the property on that date. Providing vacant possession (VP) may not be as straightforward as it sounds. As a general rule, the tenant should ensure that it removes its belongings before the break date because anything left behind which substantially prevents or interferes with a substantial part of the property amounts to a breach of the requirement for VP. Landlords have sought to argue that VP is not given where security measures (barriers, fencing and personnel) are left in place or where some pallets and dismantled racking remain after the break date. The court has rejected these arguments stating that regard should be had to what has actually occurred, whether there is a clear intention to affect the break and whether the property owner could, if they wanted, occupy the property without difficulty or objection.

However, the 2007 case of Legal & General Assurance Society Limited v Expeditors International (UK) Limited suggests that a requirement for VP needs to be precisely complied with or the break will be ineffective. This is the case even if no harm is caused as a result of the failure, so care should be taken when vacating.

Some leases require “material compliance” with the tenant covenants in the lease, which can be problematic as a landlord may try its best to defeat the break option by whatever means possible. They are unlikely to waive a breach, particularly in these uncertain times when it is difficult for landlords to find good tenants and the costs of owning empty property can be substantial. Luckily, the courts provided some guidance in Commercial Union v Label Ink [2001]; that a breach will only be material where it would be fair and reasonable to refuse the break right having regard to all the circumstances including:
- the actual breach
- whether damage to the reversion can be quantified
- the tenant’s efforts to comply
- whether the landlord has an interest in strict compliance rather than seeking to take advantage of the tenant’s non-compliance.

Fitzroy House Epworth Street (No 1) Ltd v The Financial Times Ltd [2005] added that a breach would only be material if it negatively affected the value of the landlord’s reversion and prevented the landlord from re-letting the remaining property quickly.

If your lease contains any pre-conditions to a break, it is worth trying to agree a surrender with your landlord to release you from your obligations ahead of the break date thereby avoiding any uncertainty. Alternatively, you could ask that the landlord waive the conditions. In any event, a proactive and upfront approach is strongly recommended.

Surrenders
Surrendering your lease is an ideal exit from surplus property as it can completely release you from your obligations provided the wording is right! Whether a landlord will agree a surrender is a matter for negotiation and largely depends on the landlord’s intentions for the property or the likelihood of them being able to re-let the property quickly. Often the landlord will require a surrender premium to effectively compensate for their loss in income (and indeed increased costs) up to the next exercisable break date or until the end of the conracts term, whichever the sooner.

Re-gears
While a landlord is looking to secure as much money as possible for as long as possible, a tenant is concerned with day to day cash-flow and keeping costs down. Agreeing a lease re-gear where you effectively renegotiate some key terms of the lease may achieve a favourable result for both. For example, landlords may be willing to agree rent payment holidays despite the temporary reduction in income if the tenant agrees to extend the term or to sacrifice a break clause which delays the need for the landlord to remarket. The landlord can also avoid empty property costs such as rates, in particular, which have increased in recent years as a result of changes to rating legislation. In addition, the value of the landlord’s capital interest may be enhanced. Another example of re-gearing would involve agreeing the revised rent for a future review date, which will provide certainty for all in terms of income and expenditure, in return for perhaps a period of reduced rent or more flexibility in the alienation provisions.

Arguably, the best time to negotiate a re-gear is where there is a break or rent review date in the next two to three years. Any lease clauses can be re-geared and altered as part of the process so it is a good opportunity to revise provisions that no longer suit the tenant’s needs. Documenting a re-gear is straightforward as it usually involves a simple deed of variation or, where the term is being extended, a surrender and re-grant or a reversionary lease (which will take effect in the future). However, careful consideration of the Stamp Duty Land Tax implications of an extension to the term should be looked at.

Conclusions
In difficult financial times demand for premises and rent levels fall, placing the tenant in a better bargaining position. Landlords do not want to be left with empty properties so there are possible options open to tenants hoping to make some savings. Tenants may also want to consider bringing forward service of their section 26 requests for a new lease when they are nearing the end of the term, in the hope that they can take advantage of the current climate and agree a new lease with a lower rent as soon as possible.