The first in a video series of insights on issues affecting real estate.

In this video, Philip Collis and Alexandra Holsgrove Jones look at pandemic provisions in leases and the impact this may have on other lease provisions.

Date published

05 November 2020

Lease drafting: should you include pandemic provisions?

Transcription

Alexandra Holsgrove Jones:

Welcome to the first in a series of our TLT taster sessions, short briefings on topical issues affecting the real estate world. I'm Alexandra Holsgrove Jones, senior professional support lawyer in CLT's real estate group. And I'm joined by Phillip Collis, a partner who's specialises in property-backed security and landlord independent work. Today, we're going to be talking about drafting and leases, taking account of pandemics. Bill, occasionally in leases, we see a force majeure clause. Would a pandemic be covered by such a clause?

Phillip Collis:

Right, Alex. Well, it's not market practice for at lease to contain a force majeure clause, and historically many landlords would be loath to accept them, even though they are commonly included in other commercial contracts. They tend to enable one or both parties to exit the contract, following the occurrence of certain events, which are outside the party's control. In the absence of an express force majeure clause, the doctrine of frustration may apply and that provides that a contract is frustrated, i.e. can be brought to an end. But it is a very limited application and will only apply when something occurs after the contract's been entered into, which renders it impossible to fulfill or transform the contract into something so radically different that it should actually, in all fairness, be brought to an end.

Phillip Collis:

Now, it's notoriously difficult to prove that a contract's being frustrated, and this is no different for any lease. The attempt by the European Medicines Agency last year to have its least declared frustrated because of Brexit failed. If a tenant is ordered to close its premises, it may argue that its lease has been frustrated. However, given that the issues around COVID-19 are going to be fairly short term, we hope, tenants are unlikely to actually want their leases to come to an end. What they are much more likely to want is rent suspension or a rent reduction.

Alexandra Holsgrove Jones:

Yes, but ordinarily rent suspension clauses in leases and linked to damage or destruction to the premises, the building of which those premises form part or the access the building or the premises. Here, we're looking at rent suspension in circumstances where there is no physical damage.

Phillip Collis:

Yes. And that is something that hasn't been catered for in the past. This is a new world. Now, how wide the rent suspension clause is will depend on both the sector in which the tenant operates and the bargaining strength of the parties going forward. So in the leisure or retail sectors, you could very much see that rent suspension may be linked to a period of enforced closure. However, as well as straight-forward rent suspension, there may be alternatives around rent reduction to take account of reduced operating capacity arising from social distancing measures or reduced demand arising from employees being told to work from home. In retail and leisure, you may also see a change towards more turnover rents, which in any event is becoming increasingly common in those sectors.

Alexandra Holsgrove Jones:

So we've just entered a second lockdown and the second national lockdown, but the prospect of more local lockdowns is something we're going to see over the coming months. And it could be that there are a number of these rent suspension or rent reduction periods, which could make it quite complex.

Phillip Collis:

That's true. And the drafting can become quite complex and involved. Now, not only must it be clear when a period will start and come to an end, for example, should it be when premises are permitted to reopen or when they actually reopen, which could be different depending on the requirements for each business. And this will come down to negotiation between the parties. Also, the effects on other lease provisions need to be considered. So will service charge be suspended or reduced when the main rent is? The landlord is going to have to pay for some services, but a tenant may argue quite reasonably that isn't getting the full benefit of them, so it shouldn't have to pay the full amount. How service charge accounts reconciled at the end of the service charge period will also need to be considered very carefully,

Alexandra Holsgrove Jones:

So rent suspension or reduction seem to be the main concerns at hand. Is there anything else that you're seeing?

Phillip Collis:

Wide-ranging provisions are sometimes being included so that tenants are not obliged to comply with other covenants during the suspension period. So that might be in relation to repair or decoration. Some tenants are also requesting break clauses so that they can terminate a lease if a suspension period goes on longer than a set period of time.

Alexandra Holsgrove Jones:

And what are the key points for landlords and tenants in negotiating these COVID-19 provisions in new leases?

Phillip Collis:

Well, both parties need to be clear as to what they're trying to achieve. If it's all about rental levels and they agree that they will share in the success or struggles of the tenants business, they may be better to agreeing to a turnover rent rather than having successive periods of rent suspension or reduction. However, this only going to be appropriate for certain business sectors. If the parties decide to incorporate provisions that take account of possible closure or social distancing measures, what falls within the definition of the suspension events and suspension periods is going to be thought about very carefully. Consideration also needs to be given to whether the provisions that are to be specific to COVID-19 or apply more generally to infectious diseases, public health emergencies and the like.

Alexandra Holsgrove Jones:

Hmm. Well, thanks, Phil. That was a useful rundown of key points to consider when part of leases. In another session, we'll be looking at varying existing leases catered to the current situation and how to avoid common pitfalls. Thank you for joining us. If you have any questions on the points raised, please get in touch and you can also sign up for future TLT taster sessions.

 

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