Renewing a lease is a complicated process, best left in the hands of professionals who know the law and can leverage the tenant's bargaining power.
It is easy for a small business to get fleeced by their landlord when they renew their commercial lease. This is particularly true now, with the property market swinging back in the landlord's favour for the first time in more than five years. Prime office sites, in particular, are in great demand. 'The boot is on the other foot,' says Tony Guthrie, landlord and tenant partner at chartered surveyors Weatherall, Green & Smith. 'Some landlords are making up for lost time.' Anyone looking to renew leases on desirable properties in popular areas, such as those close to London's Heathrow airport, may find their landlords less than accommodating.
They should tread with care. Negotiations are a minefield for the inexperienced tenant.
Renewing a lease is a process best left in the hands of chartered surveyors and lawyers, experts in the field of landlord and tenant procedures. Professionals will understand market conditions and the landlord's mindset and will know if, when and how to push ahead with court proceedings. Their advice need not cost the earth. A chartered surveyor is usually paid on a percentage, based on the size of the property.
It is not a good idea to hire the individual who initially advised on taking the premises because he or she will not be a landlord and tenant specialist. But they should be able to recommend someone who is.
Market conditions vary enormously and the landlord and tenant can each take advantage of that. The key thing is that the surveyor identifies the plans and needs of the tenant early on. These needs will dictate the strategy when negotiating. In many cases, tenants may be prepared to pay over the market rate. 'It is always the business needs that drive the property not the property that drives the business needs,' says Smith.
A knowledge of market conditions is essential. Michael Kushner, a director at surveyors LSM Partners, advised one retailer in London's Carnaby Street to renew even though it seemed to be sooner than necessary. Kushner knew that landlord Shaftesbury Estates was about to buy the street and that a change of ownership is often accompanied by a hike in rents.
So what must the tenant do even before they call in the professionals?
They important thing is to check the lease between 15 and 18 months before the expiry date to see whether they are protected by the Landlord and Tenant Act 1954 - the lease will specifically state this. 'If you haven't checked and it is outside the act, then that's sudden death,' warns Guthrie.
'You might be given just one month's notice by your land-lord and have no time to relocate.' Alternatively the landlord can squeeze out an unreasonably high rent. Guthrie knows of one instance where a London-based management buy-out company is paying 20% above market rent because the landlord was quick to exploit the company's inability to find new premises in time.
Shorter leases or sub-leases are often unprotected but longer commercial leases are usually covered by the 1954 Act. That means if the small business tenant wants a new lease, they have the right to one, provided they follow the correct procedures and the landlord is not able to object on any of the grounds set out in the legislation. Most landlords will be reasonable and agree new terms through negotiation but a minority will take a more aggressive stance. Terms that cannot be agreed will be referred to a court of law for determination.
The basic procedure under the 1954 Act starts with either the landlord or the tenant serving a notice on the other party between six and 12 months before the lease expiry date. The notice will specify whether they want the lease to continue, the proposed starting date for the new lease and proposed new terms. The other party responds with a counternotice, stating their intentions and requirements. Then between two and four months before the lease expiry date, court proceedings can be started. Generally, these are put on hold while landlord and tenant negotiate new terms. If either party feels frustrated by unnecessary delays and agreement cannot be reached, however, they can push ahead through the courts. It may appear costly for the tenant to pursue this route but significant strategic advantage can be gained in certain situations.
Richard Harraby, a partner at surveyors Kinney & Green is surprised how often the tenant simply waits for the landlord to serve notice (known as a section 25 notice). The new rent is likely to kick in 12 months from the date on which the original notice is served and the landlord may hang back from doing anything in a stagnant or falling market where the tenant is already paying over the odds. Instead of just sitting tight and taking a reactive or passive role, a small business tenant should take the initiative by serving their own section 26 notice in these circumstances. By doing nothing, the tenant continues to pay at an inflated level until a new lease or rent is agreed.
Andrew Smith, a director of chartered surveyors DTZ Debenham Thorpe, advised a service industry client on the renewal of their lease of town centre offices in Sussex. The landlord was dragging their feet over agreeing new terms because the property was 'over-rented' (the rent was higher than the then market level). So DTZ advised the tenant to serve a section 26 notice (the tenant's notice under the 1954 Act) and to make an application to court. This forced the landlord to concentrate on the negotiations.
'The landlord was trying to pull the wool over the tenant's eyes,' says Smith. In this case by demanding a 14-year term, the highest a court can grant, and trying to charge a higher rent for areas that the tenant had altered from garages to offices, which a landlord is not allowed to do by law. In a particularly sneaky move, the landlord was offering clauses that liberated the purposes for which the tenant could use the premises and would have enabled them to sell on the lease or sublet very easily.
While this appeared generous, they would have put up the value of the lease. The tenant did not need these concessions, so there was no point in paying for them. A shorter lease would save the outgoing tenant the trouble of having to find another tenant to take their place when they moved on. DTZ renegotiated in the tenant's favour.
In a rising market, however, the landlord may wait to serve their notice as late as possible so that the new rent will kick in at a higher level.
Daniel Nelson-Smith, head of the landlord and tenant department at surveyors King Sturge, advised a client to serve a tenant's section 26 notice five months before the expiry of the lease. Since rental levels were on the increase, the tenant benefited from seven months at the old rent before the new rent kicked in.
If the landlord does issue their section 25 notice, the ignorant tenant can severely damage their position by failing to return the counternotice within the two month time limit. The landlord can then demand that the tenant agree to the terms set out in their notice or leave the property.
'They get a section 25, which says the landlord is prepared to renew, and they breathe a sigh of relief,' says Harraby. 'Instead, they ought to be assessing the situation and getting advice.' Harraby was called in too late to advise one office tenant on London's Fleet Street. The tenant had failed to return their counternotice, lost their legal protection and was held to ransom because they didn't want to relocate or couldn't in the time. The tenant ended up living with a higher rent. There was little Harraby could do to help.
The landlord is only able to oppose granting the tenant a new lease on grounds specified in the 1954 Act. The two most common are if the landlord intends to redevelop the property or wishes to occupy the property. Using the right tactics, the tenant can scupper an unsubstantiated plan or even benefit from it. If the landlord claims they want to redevelop, the tenant should respond early. If the matter remains in dispute, the landlord will then have to prove their intention to the satisfaction of the court. Alternatively, if the market is rising and the landlord wants to redevelop, they may offer the tenant an attractive lump sum to move out. 'Sometimes they are willing to throw money at the tenant to get them out of the property,' says Guthrie.
THE ALTERNATIVE TO GOING TO COURT
Pushing the dispute to a court hearing can sometimes be the worst thing to do as judges often have no property experience and may not accept the basis on which market rents are determined. It may make better sense for each side to agree to refer the matter to Pact (Professional arbitration on court terms). The service was set up this summer jointly by the Royal Institution of Chartered Surveyors and the Law Society to deal with disagreements over rental levels.
An arbitrator with the appropriate experience considers the evidence and makes a judgment on the appropriate rental levels.
There is a flat rate of £180 to appoint an arbitrator, who is then paid between £100 and £250 an hour by the parties.
The service also offers a helpline on 0171 320 5698, which will provide 30 minutes of free advice from a chartered surveyor.