When negotiating a commercial lease, rent review clauses are a critical component. These clauses allow for periodic adjustments to the rent throughout the term of the lease, often based on changes in market conditions or inflation.
These reviews ensure that landlords receive fair market value for their property while giving tenants some predictability and structure. For landlords, rent reviews are particularly important in longer leases, where the rent agreed at the outset may fall significantly below market value over time due to inflation or market shifts.
The English Devolution and Community Empowerment Bill and its impact on rent reviews
Whilst the recently introduced English Devolution and Community Empowerment Bill (“the Bill”) primarily focuses on the devolution of powers to local authorities in England, it contains a surprise proposal to ban upward-only rent review provisions in commercial leases.
The aim of this proposed change is to prevent landlords from imposing rent increases that exceed the current market rate. Many leases currently include upward-only rent review clauses, which allow landlords to increase the rent in line with market rent or inflation, or in the event that the reviewed rent is lower than the rent already paid by the tenant, to maintain that rent. Under this system, even if the market rent has decreased, landlords are still entitled to charge the higher figure.
Under the new proposal, while rent reviews would still be permitted, landlords would no longer be able to enforce clauses that specify that the rent must be the higher of the two amounts. For example, if the initial rent under a lease is £100,000 per annum, but on the review date the market rent is determined to be £80,000, the tenant would only be obligated to pay the reduced rate of £80,000 and the landlord could not enforce the higher preceding rent.
Key Points to Note
- Scope of the ban: The proposed ban would apply to all leases falling within the scope of the Landlord and Tenant Act 1954, including leases without security of tenure. This means that even “contracted out” leases may be affected.
- Geographical scope: Although the Bill is centred on English devolution, the provisions regarding rent reviews will apply in both England and Wales.
- Effective date: The ban will only apply to new leases entered into after the Bill has passed and the provisions come into force. Existing leases will remain unaffected by this change. Landlords need not worry about altering existing leases but should begin considering how this might impact future agreements.
Potential implications for landlords
While the proposed change may seem like a positive step for tenants, it poses several challenges for landlords who rely on upward-only rent reviews to safeguard their income. Here are a few things landlords should consider:
- Fixed and stepped rent increases: Fixed or stepped rent increases will not be banned, as these are predetermined at the outset of the lease. Landlords may want to consider negotiating these types of rent increases at specific intervals throughout the term. However, this strategy carries some risk, as landlords cannot predict future market conditions and may underestimate future market rents, particularly for long-term leases.
- Shorter lease terms with fixed rent: An alternative may be to consider granting shorter leases of say 3-5 years, with fixed rents, and excluding security of tenure provisions. This approach allows landlords greater control over rent increases in line with inflation and market conditions but offers less long-term security due to the shorter lease term.
- RPI or market rent linked reviews: If landlords choose to continue using rent reviews based on inflation (e.g. using the Retail Price Index), or the reviews based on the market rent attainable, they should be aware that this could lead to situations where the rent may be lower following the review date. This creates the potential for cash flow issues and adds an element of unpredictability that may not suit all landlords.
Industry Reaction
The British Property Federation (BPF) have recently commented that it has “made it clear to Government that we do not support this blanket ban”, citing the main reason for opposing the proposal as the unpredictability it will bring to businesses. The BPF has also called for a proper consultation regarding the ban with property owners, occupiers and Government before any changes are enacted.
W
hat does this mean for landlords?
The proposed changes could significantly impact how rent reviews are structured in the future. While the ban on upward-only rent reviews is not yet in force and will not affect existing leases, it would be prudent for landlords to start to consider the potential impact on future leases.
If you have any concerns about the Bill, our experienced Commercial Property team is here to help.
