When we talk about commercial property, we are often talking about a commercial lease. This may involve either creating a new lease or transferring an existing lease from one party to another.
The creation of a new lease is usually called a grant of lease. A change in ownership of an existing lease is usually called a transfer or assignment of the lease.
What is a lease?
In simple terms, a lease is a contract. However, it is a special type of contract because, in most cases, it gives the tenant the right to occupy and use the property.
In a commercial lease, the tenant is usually the occupier of the property. The landlord’s main concern is often to receive the rent, while many of the obligations under the lease are placed on the tenant.
This is why legal advice is important. If you take on a commercial lease without understanding its terms, you could enter into a poor bargain that lasts for several years.
“Why do I need a solicitor?”
Many small and medium-sized businesses, especially new businesses, ask this question. They may say:
“I can read the lease myself. I can read the title documents. Surely it is just common sense?”
The difficulty is that commercial leases are not always straightforward. The wording of each clause can have serious legal and financial consequences.
Before taking on a commercial lease, you should consider whether you can genuinely afford it. The cost is not limited to rent.
You may also need to pay:
- VAT on the rent;
- service charge;
- insurance contributions;
- utilities, including water, sewerage, heating and lighting;
- business rates;
- repair and maintenance costs; and
- any other costs needed to use the property for your business.
Maintenance and repair costs are particularly important because they can be unexpected and expensive.
Why the lease terms matter
A commercial lease will usually contain several key clauses. Each clause may have its own legal meaning and may be affected by case law.
This means that even wording which appears simple can have consequences that are not obvious without legal advice.
What should you do before instructing a solicitor?
Before involving a solicitor, it is sensible to obtain a building survey from a specialist commercial property surveyor.
If you are buying a business as part of the transaction, you should also consider having the business valued. There are specialist surveyors and business valuers who can help with this.
A survey or valuation may reveal issues that affect whether you want to proceed, renegotiate the terms or walk away.
Agreeing heads of terms
If you are happy to move forward after the survey, the next step is usually to agree the main commercial terms with the landlord or the landlord’s agent.
These terms are often recorded in a document called heads of terms, sometimes shortened to HOTS.
Heads of terms usually cover matters such as:
- the starting rent;
- the length of the lease;
- whether you have a right to renew the lease at the end of the term;
- the amount of any rent deposit;
- any break clauses, allowing the lease to end early;
- the permitted planning use of the property;
- any rent-free period;
- rent review provisions;
- any repairs required at the property;
- whether there will be a schedule of condition; and
- who will pay the landlord’s legal costs.
This is not an exhaustive list. The terms required will depend on the property and the transaction.
In the absence of a specific agreement, the usual position is that each party pays its own legal costs. If the landlord expects you to contribute to their legal costs, this should be agreed clearly at the heads of terms stage.
Premiums and other upfront costs
Some commercial leases may require the tenant to pay a premium. A premium is a lump sum paid for the grant or transfer of the lease.
Most commercial leases do not involve a premium on the grant of a new lease, but this depends on the property and the market.
For example, if the property is in a prime retail location, such as Oxford Street, and there is strong demand for the space, the landlord may require a premium.
You should also consider Stamp Duty Land Tax, known as SDLT. SDLT can apply to commercial leases depending on the rent, the length of the lease and other factors. The calculation can be complicated, so it is important to understand whether SDLT will be payable before completion.
If the lease is for a term of more than seven years, it will also need to be registered at the Land Registry.
What if the deal is not right for you?
Many tenants feel under pressure to continue once heads of terms have been agreed. However, from a legal point of view, you should keep the following in mind.
Heads of terms are not usually legally binding, especially where they are marked subject to contract or subject to lease. However, some parts may still be binding, such as confidentiality obligations or an agreement to pay costs.
Until the lease is completed, you can usually walk away from the transaction. This may be subject to any separate obligations you have agreed, such as confidentiality or payment of costs.
If you are asked to pay a holding deposit, make sure it is clear whether the deposit will be returned if you do not proceed. Ideally, any holding deposit should be paid to the landlord’s solicitors rather than directly to the landlord’s agent.
Why taking advice matters
Taking on a commercial lease without legal advice can be a false economy.
If you do not fully understand what you are agreeing to, you may face unexpected costs, financial loss or an expensive dispute later.
A commercial lease can affect your business for years, so it is important to know exactly what you are signing before you commit.