Jun

When Commercial tenants leave, the Dilapidations process needs careful handling

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With Coronavirus hitting many businesses hard, there could be an exodus of commercial tenants leaving landlords to pick up the pieces. In many cases Dilapidations is a process that will need to be dealt with and dealt with in a professional way if it is to be effective. This article provides some tips on how to go about it the right way.

Summary:

Dilapidations claims can be substantial so tenants should be made aware of this and should fully understand their obligations.
Tenants should be advised in good time to take steps to limit their dilapidations liabilities both at the commencement and ending of a lease.
Tenants need to have the building checked and surveyed for pre-existing defects at commencement and these should be incorporated into a schedule of condition.
Landlords should ensure that a schedule of condition is drawn up at commencement, agreed between the parties and appended to the lease.
Final schedules of dilapidations are usually prepared by a chartered surveyor at lease termination.

Dilapidations in Commercial Property – Commercial Leases

Dilapidations is a term used when referring to the condition of a commercial property during the term of the tenancy or when the lease ends. It means the same as disrepair and is tied in with the repairing and decoration obligations in the lease agreement.

Dilapidations and schedules of dilapidations have serious financial implications for commercial (business) tenants, so they should ensure that they fully understand these implications and take steps at the outset to minimise their liabilities before signing a commercial lease.

Tenants should be aware that they could find themselves liable for pre-existing conditions if these are not identified and recorded in the lease.

Full Repairing and Insuring Lease

It is of particular relevance to landlords and tenants where the property has been let under the terms of a standard commercial Full Repairing and Insuring (FRI) lease where the tenant is responsible for repairs, both internal and external, including the structure of the building. The FRI lease is the norm rather than the exception in commercial property rentals.

Some small business tenants, in their eagerness to get in the premises are far too blasé about their legal obligations and will sign the lease regardless. They will often agree to leases, even short term leases, which have full repairing and redecoration obligations and fail to record the in-going condition of the property, which is often a very expensive mistake. This is especially painful if they are leaving because of a failed business and funds are non-existent.

Landlords and tenants should always make sure that leases for commercial property include a thorough schedule of condition ideally supported by photographic evidence.

Initial Building Survey

Before taking on lease obligations tenants should consider commissioning an in-going building survey carried out by a chartered building surveyor.

At the end of a lease a tenant is almost always obliged to leave the property in a good state of repair and decoration, and this would in most cases be a better state than it is actually in at the lease end.

Tenants often fail to appreciate this obligation and don’t allow for the cost. Even when they have recognised their obligations, their budgeting is often far from adequate.

Landlords and tenants with a dilapidations claim need to be aware that there are statutory limits to the amount that the landlord can claim from the tenant.

The provisions of the Landlord and Tenant Act can lead to certain tactics being employed in the dilapidations process and the time to analyse these tactics is several months (at least 6 months) before the lease comes to an end.

Thinking ahead in this way means that any necessary works can be planned or negotiations conducted which could considerably reduce the landlord’s claim.

Schedules & Tactics

The landlord may serve a Schedule of Dilapidations on the tenant at different stages of the tenancy:

A schedule served during the fixed term of a lease is known as an interim schedule.

A schedule served within the last three years of the term is a terminal schedule.

A schedule served at or after the end of a lease term is a final schedule of dilapidations.
An interim or terminal schedule will specify both the disrepair alleged by the landlord and the remedial works which the landlord requires the tenant to undertake.

The difference with a final schedule is that whilst it contains the same alleged breaches of covenant and details of remedial work required, here the tenant will not have an option to carry out the works himself since his right of occupation has ceased.

With final schedule therefore the remedy for the landlord is to claim for damages which will cover the cost of remedial works, AND loss of rent, service charges, rates, professional fees and VAT for any period during which the property is off the lettings market.

The Schedule of Dilapidations:

The Schedule of Dilapidations is simply a listing of all outstanding repair, maintenance and decoration items which a landlord (or more likely his surveyor) has determined have arisen under the terms of the lease being the tenant’s repair and maintenance obligations.

The tenant is obliged to carry out the remedial works listed in the schedule or pay to the landlord damages which equate to the cost to the landlord of carrying out the works.

Schedules of Dilapidations are often the cause of disputes between landlords and tenants, the result of which may mean court action. A court will ultimately decide upon what is relevant and what is not in the Schedule of Dilapidations. It is in both party’s interests to try to avoid court action.

Statutory Relief for the Tenant

With an interim schedule, the tenant may obtain relief from forfeiture proceedings (eviction) under the Leasehold Property Repairs Act 1938. This is providing the original term of the lease exceeds 7 years, of which 3 or more years must remain un-expired.

In some situations the tenant may be entitled to relief. In the case of a final schedule and corresponding claim for damages, the tenant may be protected by Section 18(1) of the Landlord and Tenant Act 1927. This is with the proviso that:

The landlord cannot recover damages exceeding a sum by which the value of the landlord’s investment is reduced by the tenant’s breach of covenant.

Where a landlord intends to demolish the building or carry out structural alterations such that the tenant’s breaches of covenant to repair become irrelevant, then if the tenant can prove his case absolutely, no damages will be recoverable by the landlord.

How can the Tenant Limit his Dilapidations Liability?

There are some practical steps that tenants can take to limit dilapidations liability. For example, 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.

The word repair in a lease sometimes includes a liability to renew, for example, where a roof was so dilapidated that renewal was the only practical option. So, 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 as also very relevant on assignment 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.

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.

Professional Help in Dilapidations Matters

Landlord and Tenants will almost certainly need professional help ideally from a chartered surveyor when dealing with these matters particularly if there is likely to be a dispute.

In the case of the landlord schedules must be accurate and able to stand legal scrutiny.

In the case of the tenant, the adviser acting needs to determine:

1. Is the schedule of dilapidations accurate?

2. Is the standard of repair required by the schedule is justified?

3. Are there any appropriate statutory reliefs which may be applied?

4. Should the tenant organise the repairs and if so under what times scales, or would it be preferable to pay damages?

Pre-Action Protocol

The Civil Procedure Rules – Pre-Action Behaviour in other Cases (s4.1-4.10) covers all civil disputes including dilapidations claims and covers pre-action behaviour in cases not covered by a specific protocol.

The Property Litigation Association protocol on dilapidations gives guidance, and the Civil Justice Council is currently reviewing all adopted protocols and all draft protocols to determine whether one default protocol can deal with all civil claims, which include dilapidations.

This Article on Dilapidations was originally provided to LandlordZONE by James McAllister BSc(Hons) MRICS ACIArb FFPWS, Director, The Dilapidations Consultancy Ltd. It has be revised and updated by Tom Entwistle.

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