Heads of Terms: The tenant's covenant to repair (Part 6/8)

Our eight-part series highlights the important aspects of negotiating Heads of Terms in a commercial lease and what tenants and landlords should consider and why.

Read the full series:

1. What are they, and why are they important?
2. Negotiating a commercial lease 
3. Alienation and transferability of the lease
4. Rent-free periods and break clauses
5. Service charge and insurance provisions
6. The tenant's covenant to repair
7. Making alterations to the property
8. Final boilerplate provisions in a commercial lease
   
    

Tenant's covenant to repair

Full repairing and insuring lease ("FRI Lease")

When there is a lease of whole or part, a reference to a "full repairing and insuring lease" means that the tenant has full responsibility for the repair of the property, building contribution by way of service charge (if lease of part) and to pay towards part or the total cost of building insurance for the business. 

They will be responsible for carrying out the repairs and bearing the cost of these repairs if it is a lease for the whole building (roof, structure, foundations etc., unless specifically excluded). If a lease of part, for their part of the building and then the remainder by way of a service charge.

As stated, if the property is part of larger premises, an FRI Lease places responsibility for repairing the property, as well as being responsible for the repair of the external parts and communal areas by way of service charge. (For information on service charges, please see part five of our Heads of Terms series.)

Repair

The lease will usually require the tenant to keep the property in "repair". A common misconception in commercial property is that a tenant believes their obligation extends to what condition they received the property in. 

This is incorrect. The repairing obligation is based on the wording of the lease. So the words' good and substantial repair and condition' mean that the tenant is required to keep the property and structure in that level of repair and condition (more later). 

Therefore, this would include an obligation to put the property into repair if it is in disrepair at the start of the lease. This would be because the tenant cannot comply with their obligation under the repairing covenant unless the tenant first puts the property into the level of repair required by their covenant.

It is vitally important that before taking the lease, the tenant inspects the property (and the building if part of the property) for any disrepair – a building and structural survey is always recommended. At this stage, it is important to note the potential repair costs – either directly by the tenant or by way of the service charge.

A tenant should consider restricting its obligation to simply keeping the property "in repair" to avoid assuming a more onerous standard of repair in the wording (such as 'good repair') – in most instances, the landlord will require the tenant to keep the property in "good repair" or "good repair and condition".

The above should be considered in detail as the state of repair of a property can cause disputes at the end of the lease term, when the tenant must return the property to the landlord. This is known as dilapidations and is a very difficult area for tenants at the end of the term. 

There will also be issues if the lease is renewed under the Landlord and Tenant Act 1954 as the landlord can as a condition of agreeing to renewal ask for the covenants in the lease (including the repairing covenant) to be complied with fully.

Meaning of repair

The standard and nature of the work that the tenant has to carry out depends on the age and nature of the property at the date of the grant of the Lease (Lister v Lane [1893] 2 QB 212). Therefore, in principle (but case by case can be different) if the property is old and dilapidated, a covenant to repair it will not require the tenant to modernise it.

Woodfall: Landlord and Tenant (at paragraph 13.032) advises that the correct approach to assess whether works go beyond repair is to:

• Look at the particular building.
• Look at the state which it was in at the date of the lease.
• Look at the precise terms of the lease.
• Conclude whether, on a fair interpretation of those terms in relation to that state, the requisite works can fairly be termed repair.

Tenant's should be aware that some leases use alternative or additional words and phrases besides the word "repair" to impose a repairing obligation on a tenant. For example, a covenant that requires the tenant to keep the property "in good repair and condition" is more onerous than one that specifies "good repair" alone.

If the lease states that the property must be kept in "good condition", this means that the landlord can require works to be carried out, also to the structure perhaps, even if there is no disrepair.

A detailed definition of the premises should be included in a lease of part, which specifies exactly which parts of the building are included and are therefore the tenant's responsibility under its repairing covenant. A poorly defined repairing clause can cause disputes between the landlord and tenant.

How may a tenant limit their obligation?

Schedule of condition

The tenant's responsibility to repair is as required by the wording of the lease, not the actual condition they take it in. The schedule of condition reverses that, and so it is vital that there is one negotiated at the outset. A photographic schedule is preferred with adjoining notes.

A tenant will want to limit its repairing obligation to keep the property in the same state as when the lease was granted. In particular, when the property is already in a poor state of repair, as a covenant "to repair" would require the tenant to put the premises into repair.

If the parties agree that the repairing obligation will be limited in this way, a schedule of condition should be prepared to show the state of the premises at the date of the grant of the lease. The schedule should include photographs and a detailed description of the condition of the property, and should be signed by the parties to the lease. 

It is important that the schedule of condition is kept with the lease for future reference and that the covenant in the lease expressly refers to the schedule. Difficulties may arise later if a schedule of condition was prepared when the lease was granted but was not referred to in the lease – the tenant will not be able to rely on this. Importantly, any schedule must be agreed upon by BOTH parties. It makes no difference if the tenant decides to take the photographs if the landlord has rejected the schedule of condition. Any additional notes should also be included at this stage.

Insured risks

It is usual for the tenant's repairing obligation to exclude damage caused by an insured risk. However, the tenant will normally be responsible for repairing damage caused by an insured risk if the insurance monies cannot be recovered because of an act or omission of the tenant. Make sure the lease states you must knowingly omit or have a copy of any requirements of the insurers before

Dilapidations

Dilapidations refer to items of disrepair that are covered by the repairing covenants contained in a lease. The term is used to cover breaches of the tenant's covenants relating to the physical state of the premises when the lease ends. 

Therefore, they are the tenant's requirements to put the property in the repair as required by the lease at the end of the term.

Dilapidations are usually produced by a surveyor, and the tenant is normally required by the lease to bear the cost. This can be upwards of £1,500-£2,500 plus VAT, and so it is essential to limit the costs of this.

The tenant should also request that the landlord provides this within two months of the end of the lease in line with the Dilapidations Protocol. Otherwise, the landlord can do so months and months after the end of the term.

The process is that a landlord will appoint a dilapidations surveyor to prepare a detailed schedule of dilapidations. This is then served on the tenant by the landlord or their solicitor and usually cost – at this point, the tenant will usually instruct a surveyor to validate the claim. It is then up to the tenant to decide whether to undertake the works during the lease or agree to a financial settlement with the landlord after lease end. It can often be financially advantageous for the tenant to undertake some or all of the works, but once the lease has expired, the tenant loses the right to do so and negotiating a claim for damages becomes the only solution.

It is therefore important to attend to this before the end of the term and months before that. Otherwise, the landlord will carry out the works with his own builders and workmen at a considerably higher cost than a tenant could have negotiated. 

However, the landlord cannot charge more than the loss of value of its reversion – so, therefore, only the amount of diminution in the value of the property because of the disrepair.

Practical steps for tenants to take to limit dilapidations liability:

• In initial negotiations for a new lease, particularly with short leases, the tenant may insist that the repairing liability be restricted to leaving the building in no worse condition than at the start of the lease, as an alternative to accepting full liability (as explained above). This can be done by way of a photographic schedule of condition.
  
   
• A survey should be carried out as it is an ideal tool for understanding the condition of the property and the risks from the outset. The advice in a survey report can substantially assist a tenant in new lease negotiations.
  
   
• To limit any repairing liability, a chartered building surveyor should be instructed by the tenant to produce a Schedule of Condition, recording the state of decoration and any pre-existing items of disrepair.
  
   
• These precautions also apply on assignment of a lease, where a new tenant takes on the obligations of an existing tenant. Here alterations and disrepair must also be considered carefully by the tenant considering the purchase (assignment) of another tenant's lease. It can make the lease more valuable to know the repairing obligation is not overly onerous.
  
   
• If breaches and alterations are identified prior to the purchase of the lease, the tenant may be in a position to negotiate for a reverse premium from the outgoing tenant.
  
   
• Think about also who the tenant is as in our part one and what liability will pass on to individuals under a guarantee.

It is important for landlords to note that the agreement of a financial settlement must only relate to actual loss incurred as a result of the tenant's failure to comply with their lease. It is a common misconception that landlords can therefore profit from a dilapidations claim. 

It is also important to note that landlords cannot expect a building to be returned to 'as new' condition, only the condition dictated by the lease covenants.

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