Commercial leased properties are often subject to rent reviews. They can be complicated and require careful and professional management. The aim of an ‘open market rent review’ is to allow the rent of a commercial property to be aligned with market value.
In most cases, rent reviews are stipulated as upwards only. This means that, even if values have fallen below the rent passing, the rent will continue at the same level as before.
Historically, UK commercial properties would be leased for 21 years or more and often rent reviews would take place at year 7 and year 14 to combat the high inflation levels after World War II. More recently, shorter leases are the norm, in line with the changing working environment.
Commercial property leases
These days commercial property leases can range from just a few months to several years. In longer leases the Landlord will want the provision to be able to review the rent charged. The Tenant will want to be assured that any rent review will not result in the rent being increased beyond what the market commands.
Rent review timescales will differ depending on the length of the Lease. However, in most modern leases rent reviews occur every three to five years.
Prior to starting the rent review process, ensure you have all the relevant documentation to hand: the Lease, other Licenses, Deeds of Variation, Memoranda etc. The Lease should contain the details of the rent review including:
- When the rent review will happen.
- The method the rent review will take.
- Any assumptions or disregards that will be taken into consideration when valuing the commercial property.
- The procedure and provisions for dealing with any disputes as they occur.
- The method for paying backdated rent due following a review.
Assumptions and disregards
These are in place to protect both the Landlord and the Tenant.
From a Landlord’s perspective, it is prudent to have an assumption that the Tenant has kept the premises in good repair, even if physically they have not. Without the presence of this assumption, the Tenant could benefit from a lower market value at review through their own inactions.
Landlords of multi-let buildings or estates, where they retain some repair obligations, often try to put in leases a similar assumption that they have maintained the common parts or services in a good state of repair. If they have not, then the counter argument applies; why should a Landlord benefit from a higher rental when they have not maintained the common parts and services as they should have done?
Another assumption is often the disregard of Tenant’s improvements to the property. As long as the Tenant has complied with their Lease and requested all alterations consent they were required to, the Landlord should not then benefit from an increase in value at review.
There are many nuances that need to be taken into account when reviewing the commercial property rent. It is advisable to seek legal advice or assistance from a Chartered Surveyor, such as Spire Consultancy, to manage the market rent review process and administer the appropriate paperwork to secure suitable terms and conditions.
Rent review notice
The Landlord should provide notice to the Tenant if they wish to conduct a rent review. Less often, a Tenant may instigate the review. In most cases that review will be backdated to the rent review date stated in the Lease.
In some leases the Tenant must respond by a given deadline if they wish to dispute the rent rise. If they do not respond by the requested date, they will by default have agreed to the rent rise. This is a ‘Time of the Essence’ rent review clause.
If the Tenant does object, the parties need to come to some agreement. If no agreement can be met, a 3rd party arbitrator or expert may be appointed to settle the matter and decide the ‘rack rate’ (market rate).
Don’t delay rent changes
These negotiations may take several months but it is not in the interest of the Tenant for this to take too long as any rent increase most likely will be backdated to the review date. This accrued balance will often be expected to be paid as a lump sum to the Landlord and probably with interest on top too.
Turnover & RPI rent reviews
Sometimes in leases there are alternative rent reviews to market value rent reviews, such as turnover rent reviews and Price Index based rent reviews.
Turnover rent reviews are often used in retail environments under the control of one landlord, such as in shopping centres. They are based on a Tenant’s turnover (with a minimum rental usually payable). They are often annual and in effect penalise a successful tenant. The flip side is that the shopping centre landlord has a vested interest in ensuring his centre is a success and will be taking a far more hands on management approach meaning both parties benefit. There will be a considerable amount of administration in this type of ‘open book’ review.
Index linked rent reviews base the rent on the Retail Price Index (or sometimes the Consumer Price Index) at set points and will usually occur annually or more frequently than an open market review. These are often put into leases where it is considered comparable market evidence may be hard to find in the future.
Formalise the rent review
It is important to formalise the outcome of the commercial rent review. A formal memorandum should be signed by both parties detailing the agreement, even if it has been agreed no increase is due.
As you can see, commercial rent reviews require negotiation from both parties who have differing objectives. It is due to these disparities that a Surveyor can be of real value to help guide the negotiations and oversee the legal documentations too. Poorly managed rent reviews can result in stalemate in agreeing new rates and financial loss.
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