Whether you are a landlord or tenant, it is important to plan well in advance when the commercial lease of your premises starts to draw to an end. The type of commercial lease granted has a significant impact on landlords and tenants rights when it comes to renewals.
In this article, our commercial property solicitors will explore the key considerations and steps involved in renewing a commercial lease, as well as provide insights and tips to help both landlords and tenants negotiate and navigate the renewal process.
Contents:
- What are the different types of commercial leases?
- When is the best time to start renewal discussions with the other party?
- What terms should be reviewed before renewal?
- What are the common pitfalls to avoid when renewing a commercial lease?
- Can a commercial lease renew automatically?
- What is the process for renewing a commercial lease?
- Who typically pays for a commercial lease renewal?
- What happens if I miss the renewal deadline?
- Can a landlord refuse to renew a commercial lease?
- Summary
What are the different types of commercial leases?
The first question you need to ask yourself when it comes to lease renewals is whether the lease is protected or unprotected. Whether your lease is protected or unprotected will impact your legal rights:
Protected Lease
A protected lease provides security of tenure to business tenants, meaning that their lease will continue on the same terms after the contractual term ends. Tenants of protected leases also have a statutory right to ask for a new lease to replace the existing one by following a prescribed procedure. The process involves serving a formal notice to the landlord, which triggers negotiations for a new lease. This matters because it gives tenants more stability and certainty regarding their occupancy of the property. There are circumstances where a landlord can refuse to grant a lease renewal even if the lease is protected. For example, if you are in breach of the lease terms, your landlord can oppose the renewal on grounds such as persistent late payment of rent.
Unprotected Lease
An unprotected lease does not give the tenant the automatic right to renew the lease at the end of the term. The lease will automatically end on the contractual expiry date and the tenant has no right to stay in the premises unless it is able to negotiate a new lease with the landlord (for which the latter is under no obligations). For this reason, tenants under unprotected leases are thought to have less security and may be at risk of losing their premises, losing any goodwill built up in the location and face relocation costs if the landlord is unwilling to agree to a new lease.
When is the best time to start renewal discussions with the other party?
It is best to start renewal discussions well in advance of the expiry of the lease. This will ensure there is enough time to negotiate and iron out any proposed changes to reflect business growth, current market conditions or added flexibility. This also means that if negotiations turn sour, there is enough time for a landlord to locate a new tenant to avoid an empty property. Likewise, tenants can plan ahead for their next business premises.
If the current lease still has some time to run before expiring but both parties want peace of mind of continued occupancy, there are two approaches:
Reversionary lease
You can agree and sign the terms of what is known as a reversionary lease that will immediately come into effect once the existing lease term ends.
Agreement for lease
This is a formal agreement which binds both parties to enter into a new lease, the terms of which must be fully agreed when the existing one ends. Agreements for lease can be conditional upon a certain action before coming into effect, for example, the landlord carrying out refurbishment works.
If the lease is a protected lease under the Landlord and Tenant Act (LTA) then both landlords and tenants need to pay more attention. This is because to ask for a new lease, specific procedures and timelines need to be followed. Under the LTA, the lease renewal process typically begins with the service of notices by either party - a Section 25 notice by the landlord or a Section 26 request by the tenant. These notices initiate the formal procedure for lease renewal. The Section 25 notice is served by the landlord to terminate a protected lease or propose new lease terms, while the Section 26 request is served by the tenant to request a new lease and propose terms.
In terms of timeframes, a Section 26 notice must be served by the tenant on the landlord not more than 12 months and not less than 6 months before the date on which the proposed new lease is to begin. The new lease cannot start until after the expiry of the existing lease. If the landlord wants to refuse the grant of a new lease to the tenant, then it must respond to the tenant’s Section 25 notice within two months of receipt with a counter-notice.
Similarly, a landlord can serve a Section 25 notice not more than 12 months and not less than 6 months before the date the landlord wants the current lease to end, which cannot be before its natural expiry date.
What terms should be reviewed before renewal?
Lease renewals are good opportunities to reflect on your business and seek to make adjustments in alignment with your business operations, objectives and long term plans. Some key areas to think about before renewing a commercial lease include:
- Reviewing or renegotiating the annual rent based on the current market value
- Inserting break clauses, subletting or assignment provisions to allow for flexibility or change in circumstances
- Varying the contractual term of the lease be it longer or shorter than the original
- Revisiting the frequency and mechanism of rent review provisions
- Renegotiating the extent of maintenance or repair responsibilities based on the condition of the property, and any works to be undertaken
- Seeking permission to make alternations or improvements to the leased premises
- Challenging or adjusting any unreasonable or excessive service charges/additional costs
- Whether the right to renew is to continue to apply in the next lease
What are the common pitfalls to avoid when renewing a commercial lease?
Doing nothing
Whilst just letting the current lease carry on existing terms might seem like less hassle and expense; you might miss out on the opportunity to leverage market trends to secure more favourable rents or upgrade the terms to reflect your current business needs.
Leaving it until the last minute
Whilst you are no doubt busy, it pays to start lease renewal negotiations early to avoid time pressures. It also means that if an agreement can’t be reached about key terms you wish to renegotiate, then there is leeway for relocation (for tenants) or sourcing another tenant (for landlords) to minimise disruptions.
Going it alone
Even where you might be happy to continue on your current terms, it is always a good idea to have a commercial property solicitor review the lease to highlight the implications, any risks or opportunities at the point of renewal.
Getting too comfortable
If your landlord has proposed new terms, it might be tempting to accept for ease and continuity. Whilst that may well be the case for many tenants, before committing to the lease renewal or taking any action, it is worth doing market research to see if there are any better or more cost-effective options available in the market that make more business sense.
Overlooking the bigger picture
When renewing a lease, give thought to your future business needs and whether the current space, layout, facilities and amenities of the leased premise will continue to meet those needs in the long term. Not planning for future growth or changes can become a costly mistake.
Not following correct procedures
In order for a Section 25 or 26 notice to be valid, it must comply with the prescribed information set out under the LTA 1954.
Can a commercial lease renew automatically?
Protected leases are often said to have an automatic right of renewal. This means the lease will automatically continue on the same terms after the initial letting period expires while the tenant is still in occupation, regardless of the parties taking any steps. If the tenant wants to ask for a new lease to replace their existing one when it ends (that can be settled in court if terms cannot be agreed) then it must follow the correct statutory notice procedures. The same does not apply to unprotected leases, which will automatically end at expiry.
What is the process for renewing a commercial lease?
For all leases, the process begins by opening dialogue with the other party. It might be helpful to hire a solicitor to conduct negotiations on your behalf if you want to propose useful changes. What you will actually get will often depend on your bargaining strength, market conditions and the other party’s position. If both parties are in agreement, then it is simply a case of drawing up the paperwork and waiting for your current lease to expire to move over to the next one. You cannot vary your existing lease to extend the contractual term, so you must agree and move over to a new lease.
For protected tenancies, landlords and tenants must follow the prescribed statutory procedure. After the notices are served, negotiations take place to agree on the new lease terms. If an agreement is reached, the terms are documented, and the new lease is granted. If an agreement cannot be reached, an application can be made to the court to determine the lease terms.
Who typically pays for a commercial lease renewal?
It is often the case that the tenant agrees to cover the landlord’s fees as well as their own for the commercial lease renewal. This includes legal expenses for drafting and reviewing the renewed lease and other associated administrative costs. That said, it is all open to negotiation and bargaining strength will no doubt have a part to play. There may be some situations where landlords agree to cover some or all of the costs as an incentive to retain a tenant they are happy with.
What happens if I miss the renewal deadline?
For protected tenancies, missing statutory deadlines can result in the tenant losing the right to a new lease.
For Section 25 notices, you can issue renewal proceedings any time after service of the notice but must do so by the termination date specified in the notice, unless an extension to a specified date is agreed between parties in writing.
For section 26 notices, tenants can only apply to the court after the landlord has served a counter notice or failed to respond within two months and must do so before the date of commencement of the new lease as set out in their notice.
Can a landlord refuse to renew a commercial lease?
A landlord can rely on certain grounds to refuse renewal of a protected commercial lease. The burden of proof is on the landlord to establish the grounds for refusing lease renewal, and tenants can challenge if they believe the grounds are not valid or have been improperly invoked.
The landlord can refuse to renew a lease on the following grounds:
(a) The tenant's failure to repair the premises
(b) The tenant's persistent delay in paying rent
(c) Other substantial breaches of the tenant's obligations under the lease
(d) the landlord’s ability to offer or provide alternative suitable accommodation reasonably available
(e) where the tenancy was created by a partial subletting and the landlord now wants to let or dispose of the whole property
(f) the landlord's intention to redevelop the premises or carry out substantial works that would be incompatible with the continuation of the tenant's occupation
(g) the landlord's intention to occupy the premises for its own business or residence
Tenants are entitled to compensation if their right to renew their commercial lease is denied on any of the ‘no fault’ grounds (e), (f) and (g).
Summary
Commercial lease renewals can be a complex and daunting process for both landlords and tenants. The type of commercial lease (protected or unprotected) has significant implications for both landlords and tenants in terms of rights and limitations in the event of lease renewal or termination. Engaging an experienced commercial property solicitor well in advance is crucial to understanding your position, protecting your interests and successfully navigating lease negotiations.
