In the first of a three-part series, Sue Highmore begins a detailed examination of the important aspects an agreement for lease should cover
Agreements for lease are deceptive. They are often billed as a quick way for landlord and tenant to commit, with the details being fleshed out later. The reality is very different. If drafted badly, they can reduce the value of an investment property and leave the parties without meaningful redress for breach of agreed expectations.
At its simplest, in an agreement for lease a prospective landlord agrees to grant a new lease of defined premises on stated terms on a given date, and the prospective tenant agrees to take that lease. However, most agreements for lease impose other obligations. Some agreements will involve extra parties, such as guarantors to underwrite the tenant’s obligations, or the developer carrying out works to the premises on behalf of the landlord.
When to use an agreement for lease
There is a common myth that granting an agreement for lease is quicker than settling the lease and ancillary documents (perhaps a rent deposit deed or licence for alterations). This is wrong – the agreement for lease will almost always annexe the agreed form of those documents, so they must still be negotiated. If they are not, and instead the agreement for lease refers to granting the lease on reasonable terms or attaches a draft with many variables and blanks, the client ends up with little more than an agreement to agree. There is no certainty of commitment. So, if speed appears to be the only motivating factor, it should be considered whether it is more sensible to progress straight to the lease.
By contrast, if there is a good reason why the lease cannot be granted immediately, an agreement for lease is a sensible way to secure the deal for the future. That can arise in the following circumstances:
- the landlord does not yet own the premises;
- the premises have not yet been built or construction has begun but is not complete;
- the tenant will only take the lease if works are first done to the premises by the landlord;
- the premises are not yet vacant, but the landlord expects the current occupant to leave;
- planning consent is needed for works to the premises, or the proposed use;
- third parties need to consent to the proposed lease;
- the tenant is not yet ready to move (perhaps it has to sell or surrender its lease of other premises and dovetail this with the new lease, maybe it wants to move during its quiet time of year, or perhaps it wants to carry out fitting out works before moving in); or
- there is something wrong with the title that needs to be cured or insured against.
Excluding business security of tenure
If the lease is to be contracted out of the business security of tenure regime, then a landlord’s warning notice should be served and the tenant’s declaration or statutory declaration obtained before exchange of the agreement for lease (as section 38A of the Landlord and Tenant Act 1954 requires the contracting out agreement to be between persons who will be – not are – the landlord and tenant). The agreement for lease should not be expressed as conditional on exchange of contracting out paperwork.
Essential formalities of an agreement for lease
Unlike the lease, an agreement for lease is a contract for the disposition of land and is caught by the rules imposed by section 2 of the Law of Property (Miscellaneous Provisions) Act 1989. The only exception is where it is an agreement for a lease of three years or less at the best rent reasonably obtainable without a premium (section 2(5)(a)).
Section 2 requires an agreement for lease to be in writing, to incorporate all the terms agreed by the parties, and to set these out either in one document signed by all the parties or, where the document is in several identical parts, with each party signing at least one part. The agreement for lease must either annexe (or incorporate by reference) all the documents that set out the terms that have been agreed. This includes the lease and any ancillary documents, such as rent deposit deeds or side letters. Side letters may be agreed to soften the strict terms of the lease for the benefit of the first tenant only. While they look and feel “temporary” they must be referred to in the agreement for lease or the tenant could refuse to complete the lease because the agreement for lease is void under section 2.
Minimum terms of an agreement for lease
Common law rules dictate that an agreement for lease is valid only if its terms make clear all of these aspects: the parties to the proposed lease; the premises to be let; the length of the lease (term); and the price to be charged (rent or premium). An agreement for lease may do this by specifying these details in the agreement, or may incorporate, by reference, the details from the draft lease annexed.
Where the premises are still under construction, it can be difficult to describe them accurately in the agreement for lease. Here it is best to describe the premises by postal address and an indicative plan, but a provision should be inserted to the effect that the plan will be replaced by an accurate plan of the premises as built, before the lease is actually completed.
When the agreement for lease is negotiated it is not always possible to know when the term will start and finish. The length of the term will be agreed, but its start date may depend on when the conditions are satisfied. Likewise the rent per square metre may have been agreed, but, until the premises are complete, no one knows how big they will be. In these situations it is sufficient for the agreement for lease or draft lease to set out the formula for determining the final term or rent. For example, by saying the rent will be calculated by multiplying the net internal floor area by a set sum per square metre with a fixed cap (so the landlord is not incentivised to build too big).
Using a formula in the draft lease is a convenient way to solve other roving dates, such as rent review dates. For example, assume that in a 15-year lease, there are five yearly rent reviews. These could be expressed as falling “on the fifth and 10th anniversary of [insert the start date of the term as computed in accordance with clause[ ]]”. When it comes to granting the lease, that start date will be known and can be written into the lease.
Other terms of an agreement for lease
The remaining terms will reflect the commercial position of the parties and their relative bargaining strength. It is possible to short-circuit some of the drafting by incorporating a set of standard terms and conditions of sale. The most relevant are the Standard Commercial Property Conditions (currently the second edition) (“SCPCs”). These are really geared to sales of commercial property, not to the grant of new leases, so need to be amended or supplemented by bespoke provisions. It is best to clarify in the agreement for lease which SCPCs are being disapplied or amended, rather than just declaring that all SCPCs apply “so far as relevant” or “so far as they are not inconsistent” with the express provisions. Both such phrases leave room for argument over which conditions will prevail.
Setting the timeframes
Usually the agreement for lease provides for the lease to be granted within a set period of satisfaction of the last outstanding condition. No tenant will want to wait for ages for the landlord to do the agreed works; no landlord will be happy to sterilise its investment if the tenant takes much longer to obtain planning consent than was anticipated. It is therefore crucial that the timeframe for each precondition tackles:
- the target date for discharging the obligation;
- the legitimate excuses for extension of time;
- a date beyond which extension of time will not apply (the “drop dead” date);
- what rights the other party has if the time limit is missed (termination, compensation, damages, additional rent free period); and
- the effects of termination.
Why this matters
Agreements for lease are important because they allow prospective landlords and tenants to tie up a deal even though the tenant cannot move in immediately. This gives the landlord security of prospective income and the tenant confidence about the location, quality and cost of its future accommodation. Both can then plan ahead, committing to the expense of construction, alteration or fitting out or to the cost of relocation.
It is very easy to make mistakes when drafting agreements for lease. At worst this makes the agreement unenforceable even if all obligations have been discharged. Ambiguities in what the parties can expect may lead to a reduction in the investment value of the property. So it is important to know when to use an agreement for lease, what must go in it and what other provisions may be appropriate.
Using an agreement for lease is sensible where:
- the premises are not yet available in the state that the tenant would accept (perhaps they are still being built, or they need alteration, or they are not vacant yet);
- consents are needed from others before the lease can be granted (for example, planning consent, superior landlord consents, neighbour consents);
- the tenant is not ready to move straightaway; or
- there is a practical problem with the premises, or their title, which must be resolved by the landlord.
Whatever the reason for using an agreement for lease, if the resulting lease is to be contracted out of the security of tenure regime under the Landlord and Tenant Act 1954 then it is imperative to exchange the contracting out warning notice and declaration/statutory declaration before the agreement for lease is exchanged. Waiting to do this until just before the lease is to be granted will be too late.
An agreement for lease must also satisfy the detailed requirements of section 2 of the Law of Property (Miscellaneous Provisions) Act 1989. Except for short leases, the agreement for lease must set out all the terms that have been agreed. These terms would include any side letters which the landlord has agreed to soften particular provisions in the draft lease, so far only as the first tenant is concerned. So these and any other ancillary documents, such as licences for alteration or rent deposit agreements, should be attached to the agreement for lease or referred to in it.
Sue Highmore is an editor with Practical Law Property and a freelance writer
