Grant of a Lease Flashcards
What are the advantages of a lease for a commercial tenant?
- No need to spend capital
- Not a permanent investment (flexibility)
- Some premises only available as a leasehold (e.g. in shopping centre)
Who are commercial landlords?
- Private investors - individuals/companies making a business from letting premises
- Institutional investors - financial insitutions investing in property as a safe and valuable investment providing income (rent) and long term capital growth (rise in property prices)
What type of lease would an institutional investor prefer? What does this require from the tenant?
An FRI lease (full repairing and insuring lease) = tenants pick up costs associated with property and landlord receives clear rent
What is covenant strength?
To what extent the tenant has the means to comply with obligations and the assets the landlord can recover should they breach them
Long established company = good, new company = bad
If a tenant does not have good covenant strength, what are their options?
- Guarantor (e.g. director of company)
- Rent deposit
What does asset(/property) management involve for a commercial property solicitor?
- Granting lease to a tenant
- Considering applications by tenant to lease (e.g. alter premises)
- Advising on breaches of lease (rent failure, disrepair)
What is a lease?
The grant of a right to exclusive possession of land for a determinate term less than that which grantor has in the land
Freeholder has interest in perpetuity (fixed term will always be less)
What are the essential ingredients of a lease?
- Exclusive possession - tenant must be able to exclude strangers/landlord
- Fixed term of periodic tenancy - must not be for an indeterminate time (e.g. as long as tenant is an employee) bar exceptions
- Formalities
- The reversion - interest landlord holds is subject to lease - at end of lease term the property reverts to landlord
When must a legal lease be created by a deed?
If the term is over 3 years
Can be created in writing/orally if tenancy is 3 years or under
What is a (physical) lease?
The document that creates a leasehold interest. States contractual terms, respective obligations and rent payable
Will be a deed if it has to be
What are the landlord’s objectives when negotiating lease terms?
- FRI lease (rent paid by tenants clear of deduction)
- Lease ensuring premises insured, kept in repair and used only for permitted use
- Increase rent in line with market through rent review
- Have a say on how premises altered by tenant
- Control whom may occupy premises
What are the tenant’s objectives when negotiating lease terms?
- Use premises for intended purpose
- Contractual lease suitable for business purposes
- Flexibility if circumstances change
What does the tenant not want in a lease?
- Onerous restrictions on using premises/passing lease on to third party
- Provisions allowing for steep rise in rent
- Excessively unfair provisions that favour landlord
Should a determinate lease term be fixed term (6 months, 5 years) or periodic tenancy (monthly, yearly)?
Either! FRI leases generally for fixed term
A lease where tenant can give notice is less valuable
What is the term commencement date?
The date on which the lease term (e.g. 5 years) begins
Will the term commencement date be the same as completion (dated and legally binding) of lease?
Can be before (not expected to pay for unused period) or after (reversionary lease - parties want to extend letting in advance of expirty of current lease)
Landlord may want all leases to start at same time for simplicity
What is the difference when the term of a lease is “from and including” 5 January and from 5 January?
From and including 5 Jan = term expires on the day before the day of the next year (expires 4 Jan next year)
From 5 Jan = term expires on that day in following year as 5 Jan not included (expires 5 Jan next year)
From and including is most common
When is a break clause used?
Tenant unsure about commitment and landlord unwilling to grant a shorter term
Can be a landlord break, tenant break (common) or mutual break
Can specify a date (e.g. fifth anniversary of term commencement date) or a rolling date (e.g. any time after fifth anniversary)
What if a break clause is not included?
Neither landlord nor tenant can bring lease to an end before end of fixed term without agreement
Why would a landlord offer a 10 year lease with a 5 year break clause but not a 5 year lease?
Tenant might change mind and onerous to exercise
What are the two types of rent for leases?
Commercial and residential
Commercial leases = short leases with market rent (e.g. £20,000 per annum)
Residential leases = long leases (99-999 years) with a ground rent (peppercorn-£150) - first person to buy pays a premium to landlord
How will rent appear in an FRI lease?
- Expressed as a yearly figure (but payable 1/4ly)
- Payable in advance of quarter day (e.g. on 25 March for period running up to 23 June)
- How rent is to be paid is set out (usually as a standing order) and whether VAT payable
- Other payments (contributions to insurance, service charged) also described as ‘rent’
Rent proper often referred to as annual/yearly rent
Does the landlord have an implied right to increase rent?
No - FRI lease of 10 years + will usually contain one rent review clause
What are 4 types of rent review clause and which is most common in an FRI?
- Stepped rent (£25k for 2 years, then £30k for next 2 years etc.)
- Turnover rent (rent based on tenant’s turnover)
- Index-linked rent (rent based on agreed measure of inflation e.g. RPI)
- Open market rent review (ascertains rent based on comparable rpemises) - most common for FRI!!
Will commercial rents ever go down? If not, why?
Commercial leases almost always have an upwards only rent review (rent can only increase)
If market rents have fallen, rent will stay the same
If a landlord/tenant cannot agree new rent between themselves at a rent review, what 2 things will a specialist valuer consider when determining the new rent?
- The rent payable for comparable premises (of similar size/location)
- Terms of a hypothetical lease
What is a hypothetical lease?
An imaginary lease based on actual lease but assuming certain matters and disregarding others
What are assumptions of the hypothetical lease?
- Tenant has complied with all covenants under lease
- Landlord has complied with all covenants under lease (unfair!)
- On terms of actual lease (bar rent) including term remaining
- Premises has been repaired/rebuilt if damaged/destroyed
Unfair because rent will only go up - so to reward a landlord who has not complied with covenants with a higher rent is unfair
What are 3 disregards in a hypothetical lease?
- The effect of the tenant’s occupation on the rent
- Goodwill attached to tenant’s business
- Tenant’s improvements (other than obligations under lease)
Rationale: tenant should not be penalised with higehr rent for improvements to property or its footfall
Where is the new rent documented?
Rent review memorandum (short documen t signed by both parties)
When would a tenant have to pay further SDLT/LTT?
If the rent review is before 5th anniversary of the term commencement date
None to pay if after
What happens when the new rent is agreed some time after rent review date set out in lease?
The new rent is backdated to the rent review date
Tenant has to pay additional sum plus interest at rate set out in lease
What are the 2 aims of the Code for Leasing Business Premises (the Code)?
- Improve the quality and fairness of negotiations on lease terms
- Promote the issue of comprehensive heads of terms that should make the legal drafting process more efficient
To address unequal bargaining power of parties
To whom does the Code apply?
Members of the RICS and RICS regulated firms
Many property professionals will be RICS
Code applies to most commercial lettings bar exceptions (e.g. tenancies of 6 months or less)
Does a landlord and their solicitor have to take account of the Code in negotiations?
Only when they are members of RICS or regulated RICS firms in their own right
What does the code contain?
- Mandatory requirements (must) - RICS members/regulated firms must follow them
- Good practice (should) - RICS members/regulated firms must follow them unless exceptional circumstances
Exceptional circumstances may need to be justified to RICS
Good practice provisions should become standard in time as essentially obliged to follow them unless there is a justification
What do the mandatory requirements of the Code include?
(Not terms)
- Lease negotiations must be approached in a constructive and collaborative manner
- An unrepresented party must be advised about the existence of the code and recommended to seek professional advice
- The landlord(/its letting agent) is responsible for ensuring HoT compliant with the Code are agreed before the draft lease is circulated
What does the Code say must be covered in HoT?
- Extent of the premises
- Length of term and break rights
- Rent and rent review (basis)
- Repairing obligation
- Rights to assign or underlet the lease
- Permitted use of the property (and if it can be changed)
- Rights to alter the property
What does good practice say about…
The premises
HoT should define demise, provide a lease plan, and refer to all rights tenant needs for use
Rights = right of access, water etc.
What does good practice say about…
Length of term, renewal rights and break rights
HoT should clearly specify length of term and break rights and basic conditions for exercising the break that are acceptable
What does good practice say about…
Rent and rent review
- HoT should clearly state initial rent, frequency of payment and whether VAT is charged
- Whether there is a rent-free period (e.g. not whilst fitting out premises)
- How the landlord intends to review the rent and how often
3 - E.g. by turnover every 4th year
What does good practice say about…
Landlord’s title
Landlord responsible for obtaining any consent needed to grant lease (from superior landlord, mortgagee etc.)
What does good practice say about…
Repairs
Tenant’s repairing obligation to be appropriate to length of term and condition of premises
- If tenant gives qualified repairing obligation (limited to initial state of premises) = schedule of condition required
- If premises are newly built = tenant given appropriate protection against inherent construction defects
What does good practice say about…
Insurance and damage
The lease should suspend rent if premises damaged by an insured or an uninsured risk
Unless due to something tenant has (not) done
What are the three stages in granting a lease?
- Pre-exchange
- Pre-completion
- Post-completion
Commonly do not need exchange - pre-exchange steps usually merged into pre-completion
What do the landlord’s solicitors do at pre-exchange?
- Prepare draft lease (agreement for lease if there is to be an exchange)
- Deduce title and respond to any queries on title
- Check lender consents to letting
- Answer pre-contract enquiries
- Once agreed engross the agreement for lease, obtain landlord’s signature and send counterpart to tenant’s solicitor
Engross = print a copy for signature (good quality paper and bound)
What do the tenant’s solicitors do at pre-exchange?
- Review draft lease (and agreement for lease) and amend as required
- Investigate and raise any queries on title
- Raise pre-contract enquiries and searches
- Arrange for tenant to sign counterpart lease
Who signs the original lease (or agreement for lease) and who signs the counterpart?
Original signed by landlord, counterpart signed by tenant
What is a generic precedent lease?
May be a part-completed lease which needs to be tailored by individual letting
E.g. landlord’s estate has had past lettings (8 warehouses already let, 2 remaining use part-completed used for 8 already)
Will the tenant solicitor draft the lease?
No, the landlord’s solicitor will draft the lease. The tenant’s solicitor will review and amend anything that is onerous/unfair to tenant
Is an agreement for lease needed?
Not often - solicitors will usually complete once tenant’s solicitor happy with title investigations and form of lease agreed
When will an agreement for lease be used?
Where parties want to commit to completing the lease, but are not ready/there are conditions that must be satisfied
E.g. developer building a shopping centre to open in 2 years time, will sign agreement for lease now to not lose interested parties providing for completion following practical completion of shopping centre
What 2 things should tenant’s solicitor do in the investigation of title stage?
Investigation of title similar to purchasing: landlord deduces title and tenant investigates
Tenant ensures landlord has title to grant the lease and if any freehold covenants will bind the tenant
As well as CPSE1 enquiries, what other CPSE enquiries should tenant’s solicitor raise?
CPSE3 (specific to grant of a lease)
Will the care over investigations with leasehold transactions be the same as freehold transactions?
Ideally yes
When in practice would a tenant agree with their solicitor that the cost of full investigations are not justified?
For a very short lease with limited repair/other obligations
But tenant should still be advised of risks
How is an agreement for lease exchanged?
Usually adopting Law Society Formula B (similar manner as freehold contract)
No deposit is usually payable
What will the agreement for lease set out?
What conditions need to be satisfied and when completion is to take place
May set a fixed completion date but above more likely
Will usually have a draft of the agreed form of lease annexed to it (so can only be exchanged once terms of lease have been agreed)
What do the landlord’s solicitors do at pre-completion?
- Prepare original and counterpart lease
- Prepare and send completion statement
What does the landlord’s solicitor do with the original and counterpart lease?
Obtain landlord’s signature to original and send coutnerpart to tenant to sign
What does the completion statement detail?
Apportionment of yearly rent, insurance rent (contribution to premium) and service charge (for a lease of part) on a daily basis
Rent usually paid quarterly
What do the tenant’s solicitors do at pre-completion?
- Arrange for tenant to sign coutnerpart
- Obtain funds from client needed to complete as per completion statement
- Raise pre-completion searches
How does apportionment work?
- Counting number of days for which tenant occupies in current quarter
- Calculating an appropriate proportion of yearly rent (and other sums treated as rent)
I.e. multiply number of days by daily rate, which is found by dividing the yearly rent by 365
Are pre-completion searches carried out as with a freehold transaction?
Yes
What is the appropriate search for a lease of whole and a lease of part?
OS1 for a lease of whole and OS2 with a lease of part
NB a lease of part is appropriate for part of landlord’s freehold title even if it is a standalone building (e.g. one unit in an industrial park; landlord has freehold title over whole park and is granting a part of it in a lease)
What pre-completion search is used if the lease is not registrable?
Does it confer priority?
OS3 search - does not confer priority but will check landlord is free to grant lease
What happens on completion of the lease?
- Tenant’s solicitor sends over completion monies
- Solicitors agree over phone to complete and date executed leases they are holding
- Solicitors send completed original and counterpart to each other
What does the landlord’s solicitor do at post-completion?
Send summary of main provisions to client
What does the tenant’s solicitor do at post-completion?
- Arrange to submit SDLT/LTT return and pay (if necessary)
- Register lease (if necessary)
Are the basic principles for SDLT and LTT - deadlines, paperwork etc. - the same as post-completion of a freehold?
Yes (NB may be due earlier if tenant goes into occupation before completion!)
VAT calculation of residential long lease = same for purchasing freehold
What is the SDLT/LTT calculation for a short commercial lease with a market rent payable based on?
The net present value (NPV)
Lump sum equivalent of the rent over years it is payable
Complicated formula - in practice would use calculator
What is needed to calculate the NPV?
- Start date of the lease and lease term
- Rent payable for each of first 5 years (+ VAT)
How is the NPV used to calculate SDLT on commercial leases?
- Up to £150,000 = no SDLT payable
- Over £150,000 up to £5m = SDLT of 1% available
- Over £5m = SDLT of 2% payable
E.g. NPV of £1,995,985
- First £150,000 free of SDLT
- Remaining £1,845,985 (£1,995,985 - £150,000) charged at 1%
SDLT payable is £18,459
How is the NPV used to calculate LTT on commercial leases?
- Up to £225,000 = no LTT payable
- Over £225,000 up to £2m = SDLT of 1% available
- Over £2m = SDLT of 2% payable
Is SDLT and LTT rounded to the nearest pound?
SDLT is, LTT is not
Do all leases, like all freholds, need to be registered?
No - they are treated differently based upon the length of the term granted
What is the treatment for registration purposes for:
- Leases up to 3 years
- Leases of more than 3 years up to 7 years
- Leases of more than 7 years
- Leases up to 3 years: does not need to be registered, cannot be noted against landlord’s title
- Leases of more than 3 years up to 7 years: does not need to be registered, can be noted against landlord’s title
- Leases of more than 7 years: must be registered at Land Registry (and given own title number), will be noted against landlord’s title
What must the tenant do when they are registering a lease granted from unregistered land? What happens if they do not do this?
- Applicant must submit evidence of freehold title when registering
- If not = end up with only good leasehold title!
As this is a triggering event
What does ‘noted against the landlord’s title’ mean?
It will appear in schedule of leases next to landlord’s freehold title
If a lease is registrable, what pre-completion searches are carried out before completion?
- OS1 for lease of whole
- OS2 for lease of part
When registering the lease, what form is used, what copy and what letter is needed?
- Tenat applies to register lease using AP1 (if landlord’s title registered) or FR1 (if landlord’s title unregistered)
- Certified copy of lease can be scanned and submitted electronically
- Letter of consent from lender also needed if landlord’s freehold title is charged
What two copies will the tenant’s solicitor receive on completion of the application?
- The new leasehold title
- The updated landlord’s title
Where lease is charged and tenant is a company what needs to happen?
The transaction must be registered at companies house
