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The perils of break clauses for commercial tenants

Posted: 3rd April 2012   In: Commercial Property

Break clauses are a good way for businesses to hedge their bets when moving into new premises.

Taking on a long or medium term lease offers them stability if their business thrives, while the break clause gives them the option to pull out after a certain period if things don’t go as well as expected.

However, the safety net can fail if tenants don’t meet all the conditions of the break clause, in which case they can find themselves having to carry on paying rent for a building they no longer want.

The best approach for tenants is to ask for an unconditional break clause before signing the lease. This would allow you to leave after a specified period after serving notice within an agreed time.

The landlord could still take legal action if the requirements of the lease were not met, such as rent not being paid or repairs not carried out, but these failings could not be used to prevent the break clause being exercised.

If the landlord won’t agree to an unconditional break clause, then try to limit the number of conditions and make sure they are as clear as possible.

The Code for Leasing Business Premises – a collaborative document drawn up by various industry specialists including landlord and tenant organisations – recommends only three main pre-conditions.

These are that the tenant should be up to date with rent, give up occupation and leave no continuing sub-leases behind.

The tenant may have to agree to other obligations but these should not be used to prevent the break clause being exercised. Any disputes arising can be dealt with separately, as they would once the full lease expired.

If you find you have to go further to get the premises you want then try to ensure you can meet any additional conditions being imposed.

This may not be as simple as it seems. For example, the landlord will almost certainly demand that all rent and other payments must be up to date.

If the break date falls in the middle of a quarter then you may have to pay rent for the whole quarter. If you don’t realise this and don’t pay the full amount, the landlord may argue that the break clause becomes invalid.

It’s also important to be precise at the outset about how rent should be apportioned and calculated.

Failure to be up to date with payments also catches people out. In one recent case, a commercial tenant’s break clause notice was invalid because it had not paid the interest that had accrued as a result of late payments on various charges.

The fact that the landlord had not sent a demand for payment made no difference.

You could reduce the risk of non-compliance by requiring the landlord to notify you in advance of all payments due when exercising the break clause.

Vacation of the premises is another potential minefield. NYK Logistics recently had to continue with a lease even though they had vacated the premises by the due date. The problem was that repairs required under the break clause weren’t completed until six days afterwards.
Try to avoid agreeing to covenants about repairs and decoration. The standards required can be difficult to define and can lead to disputes.

As a general principle, if you are negotiating a new lease, keep the conditions to a minimum.
If you are about to exercise an existing break clause, make sure you go over every aspect of the agreement in great detail and meet all the requirements.

If you don’t, you may find that the landlord finds a reason to invalidate the clause.

Please contact Hugh Beeley if you would like more information about the issues raised in this article.