Struan Ferguson, Partner at Blackwood & Smith
The importance of taking advice on a Commercial Lease
It is essential that landlords and tenants take proper legal advice when dealing with commercial leases in Scotland.
Commercial leases are very different from residential leases. For most residential leases in Scotland, neither party will take any legal advice before signing a contract. That is because with residential leases there are so many statutory protections that rarely can a lease be drafted in any which way which would be drastically unfair to one or other party. The law will effectively override many provisions of the lease.
Commercial leases are very different. The parties have considerable freedom of contract, so can more or less write a lease in any way they like.
Why Should I take advice on a Commercial Lease?
Here are a few examples of some of the typical complexities in Commercial Leases on which parties should take advice:
In a residential lease, a tenant can usually end the lease on giving a particular period of notice and this is a very straightforward process. In commercial leases, there is a fixed term which in theory can be quite short, for just a year or two; but in most cases commercial leases are longer and frequently five years, 10 years, or even 20+ years. A 10 year lease lasts for 10 years, and if a tenant decides after two years that the property is no longer suitable for their purposes, their business hasn’t worked out, or they just wish to move to a different location, they cannot simply give notice and leave. Sometimes a lease will have break options on particular dates part way through but, in the absence of a break option, a tenant will have to look at either assigning the lease to a new tenant (where they find a new tenant and persuade their landlord to allow a transfer of the existing lease to the new tenant at the existing tenant’s expense), or sub-let (where they find a new tenant to sub-let the property from them, again with the landlord’s consent). Those options are only available if they have been agreed by the parties in the original lease. In some cases, a tenant will end up having to continue to let the property, paying rent and complying with all of their other lease obligations, for a prolonged period, even where they do not wish to do so.
One of the most complicated parts of commercial leases are the repairing provisions. These are often misunderstood by first time tenants (and also landlords). Many people are used to the situation in residential leases where a tenant has only limited responsibility for maintenance and repair of the property. A landlord in a residential lease has to keep the property wind and water tight and maintain the property to a reasonably high standard. No such protections exist in commercial leases and it is entirely open to the parties to agree the repairing basis. In most cases, a landlord will be looking for a Full Repairing and Insuring (FRI) Lease. This means that the tenant takes on the entire responsibility for repairing and maintaining the property, irrespective of the condition that the property was in at the outset (although this can be limited in certain situations). A tenant will, in these situations, not merely be responsible for maintenance and repair of the internal parts of the property, but will also be responsible for the outside of the property, including any common parts. A typical high street commercial property, perhaps a shop, will normally have a share of the responsibility for the outside walls of the building, the roof, chimney heads, gutters, downpipes, etc. The typical alternative to an FRI lease is an Internal Repairs Only (IRO) lease where the tenant only has responsibility for internal parts of the property and not any external or common parts. The difficult part here is that these leases do not ever say on them “Full Repairing and Insuring” or “Internal Repairs Only”. There tends to be quite long and technical clauses included which set out the repairing and insuring requirements and it is only through properly understanding those that you will be able to tell what type of lease you are looking at.
Regardless of whether the Lease is FRI or IRO, another thing that often takes tenants by surprise is standard of repair or maintenance required. In the absence of any Schedule of Condition which sets out the condition of the property at the commencement of the lease, a tenant will often be required to maintain and repair a property to a fairly high standard, irrespective of the condition that it was in at the outset. Occasionally a tenant will argue to a landlord that they’ve left the property in the same condition that it was at the outset, but if they have not been properly advised on their lease, they may not understand that they were actually supposed to maintain it to a much higher standard. A landlord can require a tenant to carry out repair and maintenance throughout the lease and on termination of the lease. It is essential therefore that landlords and tenants are properly advised at the outset.
This is not simply a warning to tenants; a landlord will also want to ensure that the correct form of lease has been prepared and given to their tenant, and a tenant will want to know what their responsibilities are. Typically, with an FRI lease, a tenant will need their solicitor to examine the property title so that they can be advised of the property’s share of repair and maintenance costs for the building of which the property forms part, and many tenants will also opt to have a survey carried out so that they can check the condition of the property and the building in advance of signing the lease.
A tenant will need to know what their costs will be for the duration of the lease. The rent is usually quite straightforward, although rent review provisions can be complex. In addition to rent, there will usually be quite a number of additional payments that a tenant is required to make during the lease. While a landlord will always arrange the insurance, the tenant is responsible for paying the insurance costs. Tenants will usually be required to pay all business rates, utility costs and the aforementioned repair and maintenance costs for the property. Typically, a tenant will also be responsible for their landlord’s costs in granting any consents throughout the lease. This could be consent for change of use of the property, consent for any works the tenant intends to carry out within the property, or consent for any Assignation or Sublet. A tenant in a commercial property in Scotland is also required to pay Land and Buildings Transaction Tax (LBTT). Some leases are exempt, but in many cases an LBTT return must be made at the outset, and any tax paid, and failure to submit a tax return can lead to penalties. Further LBTT returns are required every three years for the whole duration of the Lease.
Ending the Lease
A lease will always have an end date, but the parties should never assume that the lease will automatically end on that date, because it won’t. The lease won’t say this anywhere, but if neither party takes any action to end the lease, then the lease will automatically renew under a legal principle called tacit relocation. Some landlords and tenants have therefore found that where they thought that they were able to end a lease on a particular date, because no Notice to Quit had been given to the other party within a particular timescale prior to the end date, the lease had automatically renewed for as much as a further one year period. Some advice can therefore be required even at the later stages of a lease to ensure that it can be ended correctly.
It’s not just about the Lease
Commercial leases sometimes involve various additional legal documents. In many cases, a set of missives will be required between the landlord’s solicitor and the tenant’s solicitor to set up the initial lease prior to it being signed. Where there is a deposit paid by the tenant, there will often be a document called a Deposit Protection Agreement, which sets out where the deposit will be held, who earns the interest on the deposit, and the circumstances in which the landlord can take money from the deposit (and where the tenant usually then has to top the deposit back up). Where a limited company enters into a lease, a landlord will often seek Personal Guarantees from the directors of that company. A Licence for Works is also sometimes granted, to provide the landlord’s permission to specified works to the property. Therefore, for some leases, we can end up with hundreds of pages of complex legal documents being put in place between landlord and tenant.
Beware of generic advice
These are just a few of the reasons why taking proper legal advice on any commercial lease is crucial. Commercial leases are complex and varied and the risks involved are more akin to the purchase and sale of a property rather than any residential lease either party might have entered into previously. Generic advice on commercial leases – as you may find online - will not be sufficient as there is such variation between different styles and formats of lease. Bespoke advice from a solicitor experienced in dealing with commercial property should therefore be sought at an early stage.
Contact us for advice on your commercial lease