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Green lease agreements: A guide for commercial landlords and tenants

With tough economic conditions and rising energy costs, savvy commercial landlords and tenants need to prepare as environmental regulations to improve EPC ratings come into effect. In this article we share our thoughts on some of the concerns that may be troubling landlords and tenants when it comes to sustainability and greener leases.

And if you require tailored advice on how to utilise green lease clauses in your lease agreements and other property contracts, our friendly team of experienced commercial property solicitors our on-hand to help.

How will the new environmental regulations on commercial properties impact the relationship between business tenants and landlords?

If we are heading towards a recession, commercial landlords and tenants may not feel it currently realistic to prioritise sustainability. This does not mean they can dismiss it completely; they must still prepare as environmental regulations to improve energy performance certificate (EPC) ratings will come into effect over the coming years.

Where a landlord and tenant want to add green lease provisions to the lease, they will have a new, joint objective to minimise the environmental impact of the premises requiring a collaborative approach.

One option to start preparations without significant commitments could be for landlords and tenants to agree a memorandum of understanding. This allows for more flexibility than clauses within a lease and is likely to be voluntary rather than legally binding, so more acceptable to a tenant.

What kind of additional clauses may business tenants see in their commercial contracts? What obligations may they have to fulfil moving forward?

Introducing green lease clauses will impact on several different areas of the lease, including provisions relating to:

  • service charge - landlords can include the costs of improving the environmental performance of leased buildings in the service charge costs;
  • alterations – the tenant is not to carry out alterations which may have adverse impact on the EPC rating or environmental performance of the building;
  • reinstatement at the end of the term – the tenant is not required to reinstate alterations at end of lease term where this would adversely affect environmental performance of the building; and
  • remedies for breach – forfeiture for breach of green lease clauses would be seen as draconian and unfair.

Obligations may include:

  • A landlord might require a tenant to operate building management systems correctly, or some other technology. 
  • The parties may agree to share their relevant data about the utilities consumption and waste generated by the occupation of the property. Without this, it is impossible to plan strategies for improvement in environmental performance.
  • There may also be an obligation that a tenant's fitting out works must not affect the energy efficiency standard of the building.

With recession looming, will businesses have to prepare for rent prices to increase? How did commercial landlords react during the last recession (2008)?

Some commentators have predicted that a two-tier market could develop, with green buildings let at a premium, and less green buildings being in less demand. In a tenant-driven market where sustainability may be low on the agenda, a landlord may struggle to ask for high rent on a new lease of a greener building.

Similarly, a tenant taking a new lease is unlikely to want to incur capital expenditure on environmental improvements that have a long payback period, and which may not produce costs savings until after the end of the lease term. 

Demand and rent prices fell during the last recession and tenants were able to negotiate shorter more flexible leases and longer introductory rent-free periods. Landlord and tenant disputes also increased with tenants not reviewing the terms of their leases properly before taking actions to alleviate their financial circumstances, such as sub-letting without consent.

This is why it pays dividends to take legal advice when entering into a commercial property agreement to ensure you understand the details, commitments and potential risks.

What can the government/banks do to support small business owners not only to prepare for ‘green lease’ regulation changes but also to cope with rising costs and the increase in interest rates?

There are some environmental taxes, reliefs and schemes available to businesses and some government funding for small business, but the government has rejected introducing any new big measures to help with the energy crises until a new prime minister is in place. The most common opinion amongst SMEs is that policymakers should be injecting real, measurable cash into a dedicated business response to the cost of living crisis.

It’s also worth noting that the Financial Conduct Authority (FCA) has recently told banks they must treat small business customers fairly when collecting and recovering debts. This includes when agreeing a payment plan.

Do you feel that businesses are going to be more motivated to prepare for green leases because of the environmental factors or the potential for cost savings on energy?

As well as helping compliance with legislative requirements for improved energy efficiency in buildings, I also believe that achieving greater energy efficiency will help a business:

  • lower running costs for buildings, especially when energy prices are volatile;
  • have security of supply. If energy is in short supply, it will be easier and cheaper to meet the energy needs of a building if it requires less energy to run;
  • future-proof against changes to legislative requirements; and
  • comply with corporate social responsibility policies.

How has the ongoing energy crisis/quarterly cap introduction impacted the commercial property sector? Are we going to see leases becoming considerably more expensive?

While the energy price cap doesn’t apply directly to businesses, millions of small business owners are still experiencing increased energy bills at a time when costs are rising in most operational areas.

With a substantial number of households affected by rising energy bills, people are cutting back on non-essential spending which impacts on the books of businesses.

Prices are set to remain abnormally high in the energy market for at least another 12 months. Many small businesses will be affected, with the effect of restricting growth plans and forcing businesses to raise prices for their valued customers.

In the longer term with legislative changes putting more focus on environmental impact and sustainability, there will be increased costs of complying with those changes on landlords and tenants. There are some schemes through government and local authorities to assist with more intended to be introduced.

Have you any tips for businesses to help them keep energy costs down? 

Improving energy efficiency could be one of the steps you can take to keep running costs down, including the efficiency of your on-site equipment and machinery. You should ensure all checks and maintenance on the systems and equipment are kept up to date. Fostering a change in workplace culture will help to reduce waste.

Businesses need to remain flexible and open to new ideas on how they operate and when and how they consume their energy. 

Bespoke procurement of supply contracts may assist businesses to find the best deals. Ofgem suggests a payment plan may be an option if affordability is an issue. Ofgem also suggests looking at business finance schemes and grants from suppliers or the government. You can find more information in the Ofgom energy advice for businesses section of their website.

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