Commercial Leases – Break Options

Break options in commercial leases remains a hot topic this year.  Break clauses are interpreted strictly and so if a break option contains conditions precedent to be met tenants must ensure that they do so in order for the break to be effective.  Each case turns on its facts and there have been many cases over the last few years on conditions such as payments, performing and observing tenants covenants and the concept of vacant possession.

The recent case of Avocet Industrial Estates LLP v Merol Limited and another [2011] EWHC 3422 (Ch) is a stark reminder to tenants of the need to comply with conditions attached to any break option and to obtain good advice.  In the case the tenant had a ten year lease with a break option after five years, provided that it complied with certain conditions.  These included, amongst other things, a requirement to have settled any other amounts outstanding under the lease at the break date.  The tenant had on occasions been late in paying rent and the lease required interest on any late payments.  Sometimes the landlord had demanded interest but not always.  The tenant served a break notice by the due date and the day before the break date delivered the keys to the landlord.  The tenant paid the rent due but was late in doing so. There were various points at issue, one being whether the tenant had filled its obligations, not having paid interest due.  The tenant argued that unless the landlord had demanded interest, it was not due.  The Court disagreed and held that the landlord was not obliged to formally demand default interest in order for the tenant’s liability to pay interest to crystallise.  The tenant had failed to pay all sums due at the break date and was tied into the lease for a further five years.  The interest amounted to a mere £130.  The tenant found itself liable for a further five years, which would mean it paying £300,000 in rent.  Whilst this case could easily have gone the other way, and each case depends on its own facts, it does highlight the need for both landlords and tenants to take proper advice in connection with both the negotiation of break options and their exercise.

Many precedent leases still have provisions requiring a tenant as a condition of a break option not only to pay sums due but also to perform and observe its covenants and often other break conditions such as giving vacant possession.  The Code For Leasing Business Premises in England and Wales 2007, which is endorsed by bodies such as the British Property Federation,  The Law Society and The Royal Institution of Chartered Surveyors, states that the only pre conditions to a tenant exercising a break clause should be that it is up to date with the main rent, i.e., the rent reserved and not monies reserved as additional rents such as insurance premiums and service charges (where the tenant may not know the amount due until just before a break date, whereas it obviously knows what rent is has to pay), the tenant giving up occupation and leaving behind no continuing sub leases.  It advocates that disputes about the state of the premises, i.e., the performance and observance of tenant’s covenants, or what has been left behind or removed should be settled later like as with a normal lease expiry.

It seems to us that it is time landlords and tenants, together with their professional advisors, adopted the Lease Code in this respect and use break clauses that comply with it.  This would create much greater certainty and avoid costly Court proceedings.

If you require advice on this topic please contact Caroline Pain (an Associate in our Commercial and Commercial Property Department) at [email protected]  or Grahame Griffiths (Senior Partner) at [email protected]