As the UK adjusts to life after the pandemic, the commercial real estate landscape is also undergoing its own transformation.
In order to adhere with strict social distancing guidelines during lockdown, many business allowed employees to continue working from home – a pattern that now looks set to continue long-term. Given this new culture, there will undoubtedly be business owners that want to reassess their current leases, with many eager to insert a break clause into agreements.
However, the process of negotiating a new lease is a lot more difficult than it may seem, and even then, triggering a break clause can be tricky in itself. Therefore, business owners would be wise to seek professional legal advice from the outset, as this will help them navigate the process efficiently.
Uncertainty in the market
The downturn in real estate letting appears to be widespread, as supported by research from global property experts, CBRE. According to the latest statistics, office investment in the first quarter of 2021 was down 65% on the previous quarter and 37% on the first quarter of 2020.
Although a pattern of remote working was already beginning to emerge prior to the pandemic, there is no doubt that Covid-19 and the resulting lockdowns accelerated the decline in demand for commercial property space.
This is the backdrop against which any consideration of the changing nature of commercial leases takes place, with the slump in overall demand for office space impacting on the kind of clauses tenants and landlords will be negotiating.
Negotiating an effective break clause
Due to the pandemic, a lot of tenants have been looking to utilise existing break clauses, whilst others have been keen to insert them into newly negotiated leases. The drop in demand for commercial property will undoubtedly be used to drive a hard bargain, and that may include the introduction of a break clause.
As the vast majority of commercial leases run for five to ten years, inserting a break clause into these may offer more flexibility for tenants and landlords as it enables either party to end the lease early so long as certain conditions have been met.
For example, an organisation with a 10-year lease, might seek a clause to be inserted which will give them the option to exit the lease at any point after 4 years as long as six months’ notice is given.
As it stands, there is a lot of uncertainty when it comes to a demand for office space. For this reason, the inclusion of a break clause can be one of the main sticking points during negotiations between tenants and landlords, so it is vital that both parties take the time to understand what it entails.
The impact of a break clause
As a leaseholder, a break clause will enable you to walk away from an agreement if the commercial space is no longer needed, or you need to downsize your office space to save money and protect jobs. Equally, landlords can use them to remove tenants should there be the potential to raise rents or make more money from a new tenant more ideally suited to the space. In the past tenants have been reluctant to give landlords break options, but in the new conversations this could be mutual.
Whilst a break clause can have tangible benefits for the party seeking to utilise it, the process itself is far from simple. As such, it is imperative that both parties consider the clause and mechanics for implementation carefully, because any disagreement about whether the provisions have been met can lead to expensive and time-consuming legal action.
From a tenant’s perspective, the tenant must realise that triggering a clause will leave the landlord with the task of having to re-let the premises at relatively short notice, so the landlord will usually look to resist exercise of any break clause.
Common disputes
The Royal Institution of Chartered Surveyors published a ‘Code for leasing business premises, England and Wales’ in February 2020, which states that the break clause should only be conditional on “the tenant paying all basic rent payable on any date before the break date, giving up occupation and leaving no subtenants or other occupiers …”.
This sounds relatively simple, but the reality is that many landlords insist on going beyond what is only a voluntary code and imposing stricter conditions. In many cases the landlord may attempt to link the triggering of the break clause with the wider covenants of the lease, such as the requirement to return the property in a specific condition, or to undo any alterations carried out during the Lease term.
Disputes between landlords and tenants about the exercise of break clauses are very common. It is very easy for a tenant to get the exercise of even a very simple clause wrong. It would be wise, therefore, for any tenant uncertain of their compliance with conditions to employ the services of a specialist real estate lawyer or surveyor to closely work through the break clause and how it is to be exercised.
If the opinion of a specialist is that the conditions of the break clause cannot be met then the tenant might choose, instead, to negotiate a formal ending of the lease on terms which are agreed with the landlord. Taking advice early before exercise is key.
Triggering a break clause
One aspect of a break clause which all parties must consider are the details of how, when, where and to whom the notice is served have to be adhered to precisely. Tenants and landlords need to know that a break clause will be rendered invalid if the precise conditions outlined in the lease are not met. This could include all manner of things from the method used to give notice, down to the person who serves the notice, or who that notice is served on.
The tenant will also need to ensure that rent payments are made up to and including the break date, even if that means paying for a period which falls after any break will have taken place.
Seeking legal advice
Once a break clause has been triggered, there is no turning back. Even if both parties decide they want to nullify the clause, it cannot be legally revoked, so it is in the best interests of both parties to take legal advice before taking such a drastic step.
During the drafting process, you must take the time to understand the gravity of the clause and the provisions it contains, as this will ensure you satisfy all the requirements once it has been triggered.
If you need support negotiating a break clause within a new or revised lease, or advice on using an existing break clause, then contact an experienced legal team for advice beforehand.
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Source: http://hrnews.co.uk/implementing-a-suitable-break-clause-in-the-post-pandemic-era/
