Rent review provisions

Conveyancing 10/03/2022

Introduction

The purpose of the rent review clause in a lease from a landlord’s perspective is to protect the value of the landlord’s investment by ensuring that the rent payable by the tenant throughout the term of the lease keeps pace with inflation and with the rent being paid on the open market for equivalent premises. Hence the reviewed rent will be a reflection of the changing value of the demised premises during the term of the lease. There are a number of ways of reviewing rent, however the most common is a review to the open market rent. Rent review by reference to changes in the Consumer Price Index (or other government/official indices) can be seen occasionally. Less common still is an arrangement whereby rent is calculated by reference to turnover of the business of the Tenant. Occasionally the Turnover rent provisions can include a “base “rent which is effectively a minimum rent which is topped up depending on turnover achieved. Typically, the “base” element is reviewed periodically on an open market basis. These generally only arise in leases of retail or hospitality premises or leases of bespoke buildings which have few comparables in the market. Great care is needed when drafting rent review provisions, especially where the arrangements are unusual, such as in turnover rent cases. The focus of this commentary, however, is on open market rent review arrangements which are the most typical form of rent review mechanism operating in the market.

The Law Society and the (then) Irish Auctioneers and Valuers Institute prepared a standard rent review clause which dates to the early 1980s. The bones of this clause is largely still in use today but with certain modifications.

Role of rent review valuer / surveyor

Whilst solicitors engaged regularly in the negotiation of commercial leases will gain considerable experience in the negotiation of rent review clauses, and indeed may have represented landlords or tenants in rent review arbitrations or expert determinations, nonetheless, they do not possess valuation qualifications. Consequently, it is advisable, particularly in high value leases, that the landlord’s valuer (and the tenant’s valuer), be involved in settling the text of the rent review clause. After all, it is likely to be the valuer(s) who will be implementing the terms of the clause on each rent review and they will have experience of operating rent reviews in the market, the valuation impacts, and consequences of the drafting, etc.

Review of Specimen Clause

Attached to this commentary is a specimen rent review clause. This is not a recommended precedent and certainly is not a draft endorsed by the Law Society. The Conveyancing Committee takes the view that rent review provisions are typically heavily negotiated and may be bespoke to particular facts and the Committee is not in the business of recommending any clause in these circumstances. The Committee will however seek to inform practitioners of issues currently arising in practice whether the practitioner is representing the landlord or the tenant.

The following are some of the aspects to be considered by reference to the specimen clause:

  • Open Market Rent: This definition is generally of universal application. Footnotes are included in the specimen clause which will provide further guidance. An issue that can typically arise in this definition is the length of the term of the notional lease.  It is reasonably well settled however that in longer leases (20 year term plus) most landlords and tenants accept what is provided for in the specimen clause, namely that the notional lease will be for a term equal to the unexpired term of the lease in hand at the relevant review date or a period of 15 years, whichever is the longer. Typically, shorter notional terms offer a valuation advantage to landlords with longer notional terms being favourable to the tenant.
  • Assumptions: Depending on the nature of the demise, there may be some negotiation around assumptions and in particular the standard/quality to which the premises are being delivered to the tenant including the level of fitting out. Generally, a landlord will want it assumed that a tenant has already enjoyed whatever rent-free concessions are being offered in the market on the basis that the tenant will likely have enjoyed such concessions at lease commencement. Note the cited case in the footnotes to the specimen clause in Broadgate Square v Lehman Brothers sub nom Co-Operative Wholesale Society –v- National Westminster Bank [1995] 1EGLR 97 and if the landlord’s objective is to achieve a “headline rent” the wording specified in the footnote or something equivalent would need to be utilised. Tenant’s will typically resist such a provision.
    The other assumptions are reasonably self-explanatory, and the reader can see a placeholder for any additional assumptions which may be premises specific. Again, input on the assumptions by the respective valuers representing the parties will be important.
    The specimen clause includes an assumption that the premises include the items listed in the ‘Landlord Specification’. Frequently the landlord will want to be specific in terms of the standard of premises that were delivered at lease commencement and receive the benefit for that landlord delivered specification at rent review. There is also an assumption relevant to measurement and, if the lease has been granted pursuant to an agreement for lease, there will typically be a measurement clause in the agreement for lease which allows for professional measurement of the premises in accordance with relevant measurement codes. A landlord will need to ensure that the premises are correctly measured and that there is no understatement of lettable floor area in the assumed measurement as they will be penalised at each review if this is the case. It will be important that the correct measurement method is used for the particular use of the building. Where there is no provision for measurement in the assumptions, the premises will typically be re-measured on each review by the respective surveyors/valuers and, if there is a dispute, the matter of measurement may fall to the arbitrator or expert. Likewise, a tenant should be concerned about measurement assumptions in the rent review clause and ensure they accurately reflect the reality.
  • Disregards: Again the disregards suggested are typical and should generally be non-controversial. Disregard (C), regarding effect on rental value of works carried out by the tenant, may require some negotiation and in some cases, the tenant may wish to specify, in an appendix to the rent review clause, the actual works which the tenant has carried out at its cost and hence does not want rentalised.
  • Section 132 of the Land and Conveyancing Law Reform Act 2009: The effect of Section 132 is to impose a restriction on how upwards only rent review clauses are to be interpreted in respect of any lease granted after 28 February 2010. The provision states (inter alia) as follows:
     “a provision in a lease to which this section applies which provides for the review of the rent payable under the lease shall be construed as providing that the rent payable following such review may be fixed at an amount which is less than or greater than or the same as the amount of rent payable immediately prior to the date on which the rent falls to be reviewed”.
    This section has the effect that all rent review clauses contained in leases granted post-28 February 2010 are deemed to be “upwards and downwards” rent review provisions. A number of devices have been crafted to try and mitigate the impact of Section 132 to some extent. These include “cap and collar” clauses which provide that on review the rent shall not fall below a “collar” and will not rise above a “cap”. Strictly speaking, these rent review clauses are expressed to be on an “upwards and downwards” basis but their efficacy has yet to be tested in the courts. Other examples of attempts by landlords to mitigate the impact of Section 132 would include a provision for ‘landlord only’ triggered rent reviews which would mean that a landlord may opt to avoid triggering a rent review on a particular review date where the market is not favourable from their perspective and the rent is likely to fall if reviewed. Needless to say, a well advised tenant will strenuously resist any such impediment to a review and may seek to insert a clause that the tenant has the right to trigger a review perhaps 6 months after the relevant review date if the landlord has failed to do so.
    Alternatively, the landlord and tenant may agree a “stepped rent” being a series of fixed rent increases during all or part of the term of the lease, and as such an arrangement is not a rent review per se, it is generally accepted that it is not affected by Section 132 of the 2009 Act.
    Leases pre-dating 28 February 2010 will likely contain upwards only rent review provisions and these are still applicable and enforceable. Landlords should take care when “re-gearing” any leases (for example by dropping break clauses or pushing out term expiry) with upward only rent review clauses to avoid a scenario that the “re-gearing” may be deemed to be a “surrender and re-grant” thus rendering any future rent reviews to be on an upwards and downwards basis. [See Conveyancing Committee Practice Note ‘Varying a Lease: Avoiding Unintended Consequences’ March 2021]
  • Dispute: The clause provides that if the parties cannot agree on the open market rent at a relevant review date and, if the parties are unable to agree on the appointment of an independent surveyor, the independent surveyor will be appointed by the President of the Society of Chartered Surveyors on the written application of either party. The specimen clause also provides that the surveyor, at the option of the landlord, shall act either as an arbitrator under the Arbitration Act or as an expert. Note the commentary in the footnotes as to whether a surveyor is the appropriate adjudicator in every case and, depending on location or premises type, an auctioneer/valuer/member of IPAV may be more appropriate. Also, the appointing agency/person should correspondingly be the President for the time being of IPAV.
  • Arbitrator/Expert: There are two sides to this analysis. An arbitration is undoubtedly a more formal process and is governed by rules set out in the relevant statutes and relevant case law. The expert on the other hand is not obliged to hear any party (unless the rent review clause provides for such a hearing) and simply makes a decision on the basis that he or she is an expert. There has been a view that landlords typically prefer rent reviews by experts, as the procedure is quicker, whereas tenants prefer rent review by arbitration as it gives them an opportunity to put their case forward. It is not clear that this distinction still holds sway. There was a lengthy period over the last decade where there were very few rent reviews initiated in the market but most recent reviews of larger premises are being determined by arbitration.
  • Interim Payments pending Determination: The specimen clause provides for the tenant to continue paying rent at the existing rate until the reviewed rent is determined and, depending on whether the rent is reviewed upwards or downwards, a balancing payment or balancing credit may be due by or to the landlord.
  • Time of the Essence: The specimen clause makes specific reference to the fact that time is not of the essence.
  • Rent Restrictions: The specimen clause contains a standard provision that where there is applicable legislation or equivalent which prevents the landlord from carrying out reviews, the landlord will be able to review the rent as soon as these provisions are lifted.

Conclusion

The vast majority of rent reviews are determined by agreement and often occur without resort to the detailed provisions of the lease, with the reviewed rent based upon negotiation and comparable rental evidence produced by the landlord, tenant and their advisors. This is often against the backdrop of a well drafted rent review clause which can avoid costly disputes for all parties.