Avoiding commercial property disputes - understand your lease

As a business owner, it's important to understand your commercial lease if you are occupying property for business purposes. Many business owners and tenants do not adequately understand their responsibilities under a commercial lease, which can lead to costly problems and nasty surprises down the line.

This guide explains your obligations as a business tenant, common lease clauses that cause issues, and when you should seek professional legal advice.

Commercial leases explained

It is common for a business occupier to have a lease for the property they use for business purposes. Sometimes the business occupier owns the freehold of the property, but it is very common for commercial premises to be leased for a particular period.

Back in the 1980s, it was common for commercial leases to be signed for a term of 20 years or more, but over the last 40 years or so, particularly given the events of the pandemic in 2020, lease terms have become shorter. Nowadays, it is more common for a business occupier to take a lease for, say, 10 years, with the right to end the lease early at year five, or for even shorter lease terms, such as a lease for five or three years. This gives a business occupier flexibility and avoids potentially disastrous circumstances in which they have signed up for a long lease term and then find they need to relocate or cannot trade successfully from the premises, yet remain liable to pay rent.

Seven commercial lease issues every business owner should understand

Rent payment obligations

Circumstances may arise that make it impossible for a tenant to pay the rent due under the lease. Most commercial property leases contain forfeiture (link to guide) provisions, which give the landlord a right to change the locks and end the lease early if rent is not paid. It is therefore imperative that a tenant takes early legal advice if they are unable to pay rent, to understand the landlord's remedies and the consequences that may follow from non-payment.

Alienation clauses: transferring or sub-letting

Most commercial leases contain "alienation" clauses, which is the word that is used to describe the section in the lease that includes restrictions on a tenant's ability to transfer the lease to a third party without the landlord's consent and/or a tenant's ability to let the whole or part of the property to another occupier.

A tenant should make sure that they understand those restrictions at the time they are taking on the lease, and especially if they are considering transferring the lease to a third party, whether that is an assignment of the lease because they are moving out themselves, or whether they want to retain the lease but let part of the property to another party.

Alienation clauses are included in a lease to give a landlord some protection and control over who their occupier actually is. Landlords often retain the right to give their consent to any change in occupier because they want to ensure the occupier can pay the rent due and abide by all tenant covenants.

If a tenant does not properly understand the alienation provisions in the lease and allows another party to occupy, then that could be a breach of the lease terms, and the landlord could take action to bring the lease to an end.

Repairing obligations and schedules of condition

This is a common area of contention and misunderstanding among tenants. It is common for tenants to misunderstand their repairing obligations and to think that they only have to give the property back in the same state as it was when they took on the premises.

That might be the case if the tenant negotiated and included in the lease a provision that they only have to repair the property in accordance with the condition shown in a photographic written schedule of condition produced at the time the lease was entered into.

However, if a schedule of condition does not limit the repairing obligation, a tenant is very likely to have to put and keep the property in good repair, regardless of the condition it was in when they took on the premises. A tenant must understand their repairing obligations properly when they take the lease to avoid nasty surprises a few years into the lease term or at the end of the lease term.

If a landlord is concerned that the tenant is not keeping the property in good repair and decoration during the lease term, they may be able to serve a notice on the tenant requiring them to do works during the term of the lease and if the tenant fails to do such works the landlord may be able to enter the property and do those works and recover the costs from the tenant as a debt.

If the tenant fails to put the property back into a reasonable state of repair at the end of the lease, the landlord may have a terminal dilapidations claim (link to page) against the tenant and will be able to recover the costs of the repair works from the tenant.

Terminal dilapidation claims are a complex area of law, and a tenant should always seek early legal advice from a solicitor and a building surveyor regarding their repair obligation at the end of a lease to avoid a significant financial claim after the lease has ended.

Break clauses and how to exercise them properly

Commercial property leases often include a break notice, which gives the tenant and sometimes the landlord the option of ending the lease early. Break clauses usually include conditions for the tenant to comply with in order to bring the lease to an end early; these can include payment of all rent due, or, in some instances, a penalty if they exercise the break clause.

A tenant should always take legal advice on how to properly exercise a break clause and the preconditions, if any, that apply for them to terminate the lease early.

Rent review provisions

Longer lease terms tend to include rent review provisions at say year five or year three. A rent review clause will give the landlord the right (usually) to increase the level of rent payable by the tenant. It is common for there to be disagreement between the parties about the rent payable on any rent review. In the event of a dispute, a tenant should engage a rent review surveyor to assist them in compiling evidence of the market rent at the appropriate time.

Use clauses and restrictions

Leases will usually contain restrictions on how and what the property can be used for. It's the tenant's responsibility to ensure the property is used only for the specified purpose. If the tenant wishes to change the use of the property, they will need to seek the landlord's permission and, in some instances, planning permission. A tenant should ensure they understand the use clause when they take on the lease, especially if they think they want to diversify or change their business operations during the lease term.

Service charges in multi-let buildings

In situations where you are only occupying part of a commercial building, but there are shared areas used by other occupiers, your lease may include provisions for the landlord to recover service charges. If this is the case, you will need to be clear on what costs are recoverable under the service charge provisions and whether the landlord has properly carried out their obligations in relation to the common areas. Service charge provisions can be complex, and it is worth taking advice on these clauses before you enter into the lease.

Your responsibilities as a tenant

A tenant's responsibilities will be set out in detail in the lease. A tenant's responsibilities will usually be much more extensive than a landlord's, because the tenant effectively takes over responsibility for the property whilst occupying it. Common tenant responsibilities include an obligation to pay rent, to repair the property, to comply with any statutory obligations, to only use the premises for the specific agreed purpose and to give back the property to the landlord in a fully repaired state at the end of the term of the lease.

It is imperative that a tenant fully understands all their obligations under the lease before signing to avoid potentially costly consequences later.

The landlord's responsibilities

A landlord's responsibilities will be set out in the lease and are usually referred to as the landlord's covenants. Common landlord responsibilities are:

• An obligation to insure the property for all usual insured risks and to recharge the premium to the tenant.
• In some circumstances, it may be necessary to carry out repairs to the property, for example, if the tenant only has an internal repairing obligation and the landlord is responsible for repairing external parts of the property, such as the roof.
• In some circumstances, a landlord might have a responsibility to provide services if, for example, there are common areas in the building that are shared by other occupiers.

A tenant should ensure they understand what the landlord and the tenant are responsible for, as this allocation of responsibility can vary significantly from lease to lease.

What to do if problems arise

In the first instance, it is imperative that each party understands their legal obligations as set out in the lease document. If a tenant is concerned that they may be breaching the lease or if they have received a notice from their landlord, they should take legal advice straight away.

In some leases, there is a dispute resolution clause that sets out the procedure to be followed in the event of a disagreement between the landlord and tenant, such as referring any matter to arbitration.

If there is no specific dispute resolution procedure set out in the lease, it is common to send a letter stating which term of the lease is being breached and requiring action to remedy the breach. Sometimes a landlord might serve a Section 146 Notice, which is the first step towards forfeiting and terminating the lease if the breach is serious and the landlord intends to end the lease early if the breach is not remedied.

If issues arise, the landlord and tenant should work together to try to resolve the issues at the earliest opportunity. It is common for without prejudice meetings to take place or mediations to try and resolve issues at the earliest opportunity. Court proceedings should be a last resort.

When you should seek legal advice

A tenant should take legal advice at the earliest opportunity if they are facing any of the following circumstances:

• Before signing a commercial lease, to make sure they properly understand their obligations
• They are unable to pay rent and are concerned about the landlord's remedies
• They have received a notice from their landlord alleging breach of the lease
• They want to transfer or sublet the premises
• They are approaching the end of the lease term and are concerned about their repair obligations
• They want to exercise a break clause
• There is a rent review, and they disagree about the appropriate level of rent
• They have received a Section 146 Notice

Landlords should also seek professional legal advice if they are concerned that a tenant is breaching the terms of the lease or if they are considering taking action to bring a lease to an early end.