As the needs of your business change, you may wish to get out of the lease on your premises. This is seldom easy. A lease is a legal contract, and your landlord can take you to court if you break it.
You may have several options, depending on the terms of your lease. Even if the lease lacks flexibility, your landlord may be prepared to negotiate a compromise.
1. Why break your lease?
There are four common reasons for wanting to end a lease prematurely.
Your premises are now inappropriate
For example:
- you have outgrown your premises, or need a different sort of premises
- you have too much space
- you wish to relocate your business
Your premises are now too expensive
- This is a Catch-22 situation, as it may cost you a lot to get out of the lease (see What will it cost?).
Another business has offered to pay a higher rent for the premises
- You may be able to terminate or assign your lease, or sublet at a profit.
You might want to improve the lease on your current premises
- This may involve surrendering your current lease in exchange for a new lease on more favourable terms.
- Discuss any proposals with a chartered surveyor or solicitor before considering any such agreement.
2. Ways to exit a lease early
Your ability to get out of a lease depends on the terms of your lease, property market conditions at the time and your negotiating position.
There are two ways out of a lease
- Terminating the lease, which usually avoids any ongoing liabilities to the landlord.
- Finding a tenant to replace you, and assigning the lease to this third party. This will probably leave you with some liabilities to the landlord.
An alternative is to sublet the premises
- You find a tenant to replace you, in order to generate your own rental income.
- Subletting your premises like this means that all your liabilities to the landlord under the original head lease remain. The subtenant is liable to you under a separate sublease.
The best option depends on the circumstances
- If your lease is due to end in less than two years, it is usually preferable to terminate the lease, avoiding the considerable expense - and risk - of assigning or subletting. Or it may be best to remain in the premises until the lease expires.
3. Your lease
Ask your solicitor - or a chartered surveyor - to review your lease agreement and explain your options.
Break clauses give you the automatic right to terminate the lease at specified dates
- For example, a nine-year lease might have break clauses which allow the tenant to terminate the lease after three or six years.
- You will need to meet certain conditions, such as repairing the property or putting right any alterations you've made.
The lease may give you the right to assign the lease or sublet to another tenant
- There may be various restrictions.
- If you do not have these rights in the first place, you may be able to negotiate them at a later stage - at a price.
Some leases are more flexible than others
- The shorter your lease, the easier it should be to get out of. It may be possible to negotiate a deal with the landlord by paying them some or all of the outstanding rent.
- Over the last ten years, leases have become shorter, more flexible and generally far more favourable to tenants.
- An occupational lease (or standard or institutional lease) is difficult to get out of. The lease typically runs for 12 to 25 years and has strict legal restrictions - since it can be traded on the property market.
- If you own a long leasehold of 99 years or more, it is similar to owning the freehold of the property. Usually you can sell a long leasehold premises as you would a freehold.
Take any opportunities that arise to improve the terms of your lease
- For example, when your lease comes up for review, try to negotiate better terms in return for any increase in rent.
- Your professional adviser can tell you what the best course of action is and how much the whole process is likely to cost.
4. Terminating the lease
Exercise a break clause in your lease contract, if there is one
- You usually have to notify the landlord in writing during a fixed notice period. Ensure you do not miss the deadline.
- The landlord may be legally entitled to refuse to accept the break if you breach any of the terms of your lease, however minor - for example, if the rent is in arrears.
- Check your lease for any penalties.
In the absence of a break clause, offer your landlord a deal to surrender your lease
- Base your proposal on current market conditions.
- The landlord is under no obligation to agree to any proposal you make.
- If the landlord realises you are desperate to move, you may end up paying a premium to leave.
- If you are in financial difficulties, you may only be asked to pay a relatively small penalty payment. You will have to prove your position to the landlord. Be prepared to reveal financial information relating to your business.
- Alternatively, the landlord may agree to a lower rent if it is clear that your business will fail otherwise. A lower income may be better than a vacant property, or the risk of you defaulting.
- Your negotiating position should be much stronger if you can find another business to take on the lease - especially if its financial standing is better than yours.
5. Assigning the lease
Assigning a lease involves passing it on to another business
- This is a halfway step between terminating the lease and subletting.
- Short leases often prohibit assignment of the lease. It may also be prohibited in the last few years of a lease. Even if assignment is permitted, the lease will restrict who the new tenant can be.
- You are likely to need the landlord's consent, but the landlord cannot unreasonably withhold this.
- The key issue is whether the financial standing (covenant) of the new tenant is as good as yours. The landlord will usually want to check the prospective tenant's accounts and references.
- The permitted use of the premises may be restricted in a way that disqualifies the proposed new tenant.
- The landlord will want to know how the new tenant will use the premises, and to be told of any planned alterations.
You may be left with some liabilities
- Although the new tenant (assignee) is liable to the landlord to fulfil the terms of the lease, you usually guarantee the new tenant's payments one way or another.
- For leases beginning before 1 January 1996, you usually remain liable to the landlord for all payments owed by any subsequent tenants, throughout the full period of the lease. This is known as 'Privity of Contract'.
- For leases beginning after 1 January 1996, the landlord may require you to guarantee payments by the next tenant (but not all subsequent tenants).
- In either case, the landlord can only claim payments of rent and other fixed sums within six months of the sums becoming due, and provided the landlord has given notice to the former tenant.
There may be an initial, one-off premium
- You may have to pay a premium to the new tenant if the rent under the lease is above the current market rate.
- Conversely, if the rent is below the market rate the new tenant may be happy to pay you a premium. If so, you should take advice on whether you need to 'opt to tax' and charge VAT to protect your position.
6. Subletting your premises
If you sublet, you become the landlord of the incoming tenant.
You remain liable to your landlord under your original head lease
- Check the terms of the head lease to establish what you can and cannot do.
You negotiate a new sublease with the new tenant
- The terms of the sublease are usually similar to the terms of the head lease, to cover all your liabilities.
- You cannot give any rights to the new tenant which extend beyond your own rights as a tenant. For example, you cannot give a longer lease.
- Even if you cannot cover your rent, subletting may at least cover other overheads such as rates and service charges.
- You may be able to make a profit on the rent and other charges.
- You may need advice on your VAT arrangements.
Landlords usually want to approve the terms of a sublease before consenting
7. Finding a tenant
Unless you already know of a suitable tenant who would like to take your premises, you will need to employ a firm of chartered surveyors.
Ask for proposals from three firms and pick the one you have most confidence in
- The proposal should outline plans for marketing the premises, including views on what the rent should be and how long the whole process will take.
Check the terms of engagement
- These give details of the commission payable and the proposed expenditure on marketing.
- Which marketing costs will you have to pay and at what stage?
- Which additional costs will be added to the bill?
- Will the surveyors bring in other agents (at no cost to you) if they have difficulties finding a tenant to take your lease?
Provide the surveyors with full information on the premises
- This should include floor plans and details of the lease, the fixtures and fittings, and any costs such as service charges.
8. Market conditions
Market conditions will determine how easy your negotiations with the landlord are, particularly if you are negotiating to terminate the lease early.
Your landlord is more likely to agree a deal if the property market is strong
- If rents and occupancy rates are high, the landlord can expect to find a new tenant soon and perhaps to increase the rent.
- You may even be able to negotiate a cash premium for leaving the premises.
If the property market is weak, your landlord may be very reluctant to agree a deal
- You may have to pay a financial penalty to get out of the lease.
9. Your negotiating position
Take steps to strengthen your negotiating position by assessing the situation from a number of different angles.
What is your landlord's position?
- The premises may be difficult to re-let, because of location, layout or condition.
- The landlord may have other problems.
- If your premises are in a multi-let building, find out if the landlord plans future redevelopment for the whole building. If this is so, it will be easier to negotiate a termination. It should also be cheaper, as you can avoid any dilapidation charges.
Has the landlord broken any terms of the lease?
- For example, if the landlord fails to maintain the premises, you may have the right to terminate the lease (once notice periods and legal procedures have been completed).
What concessions are you willing to make?
- If you provide any guarantees, try to limit the amount and duration.
- It is often worth paying more cash today to avoid potentially large future liabilities.
10. Avoiding disputes
It is not always possible to avoid disputes, but you can take steps to minimise the risks.
Ensure you understand and agree with all the clauses in the lease before signing it
- Use a professional adviser to explain all the terms and obligations.
- Ensure you do not breach any of the terms in the lease.
- Follow the correct procedures when exercising your rights.
Agree a procedure for resolving disputes
- Get it included in the lease before you sign.
- You can agree how formal the procedures should be and who should act as the arbitrator or mediator.
- It can be cheaper, quicker and more flexible to resolve disputes this way.
- Ask your trade association if there is an arbitration scheme for your industry.
- Some courts offer mediation facilities.
- In the event that you still cannot reach agreement, courts are generally sympathetic to the difficulties faced by tenants.
11. What will it cost?
The costs incurred in getting out of your lease may make your annual rent look cheap by comparison. Be realistic about the price you will have to pay.
Do not ignore the cost of the professional advisers involved, on both sides
- The bills for your landlord's advisers will usually be paid by you.
- The cost of finding a new tenant may be hard to estimate in advance.
You are likely to have additional costs
- What is the extent of your liability under the lease for dilapidation charges?
- How much is finding new premises and relocating going to cost you?
Signpost
- Find a solicitor through the Law Society.
- Find a surveyor through the Royal Institution of Chartered Surveyors (RICS).
- Find guidance on commercial leases in the Code for Leasing Business Premises.
- Find a mediator or arbitrator through RICS dispute resolution services.