Commercial Property Disputes specialist, Mike Hansom, shares his tips for business tenants facing dilapidation claims, and for reducing exposure to them from the outset. Mike is available by email, or you can call him on 01225 462871.
The pandemic has had a devastating effect on many business sectors. In consequence, the number of commercial leases not being renewed, or where tenants have exercised break clauses, has skyrocketed. But when a lease ends, in most cases that is not the end of the tenant’s financial liability to the landlord. That is because commercial leases inevitably allow for dilapidations.
What are dilapidations?
‘Dilapidations’ is the term for a landlord’s claim against a tenant for the cost of putting the leased property back into a good state of repair and decoration when the lease comes to an end. Often it makes no difference what condition the property was in at the start of the lease. It also includes the loss of rent while these works are undertaken.
Understandably, dilapidations can be very contentious. Landlords inevitably wish to maximise their claim so that the premises are left in the best possible condition to assist them in re-letting, or to achieve the best financial settlement. On the other hand, a tenant will wish to minimise the dilapidations claim, particularly if they believe they have looked after the property and returned it in good condition.
Tips for tenants in dealing with dilapidations
- Always use a building surveyor with experience of dilapidations. Not all building surveyors have this experience. If necessary, your solicitor should be able to recommend one.
- Invest in a building survey before you enter the lease, particularly if the premises are older. Identifying significant issues, including latent and inherent defects in the premises’ construction, means they can be excluded from your repairing obligation under the lease. The surveyor will prepare a Schedule of Condition, using both words and pictures to identify existing issues. The lease then needs to limit the repairing obligation by reference to the Schedule.
- If at all possible, exclude extraordinary repairs. Extraordinary repairs are ones that you would not normally expect to be responsible for under a lease. Typically, they involve substantial work and high cost. A good example would be replacing the roof.
- Check what the lease requires you to do. An obligation to ‘keep in repair’ includes putting the premises in repair. Very often, tenants who take premises with pre-existing problems wrongly assume they are only obliged to prevent them getting worse. Or they accept an inaccurate assertion in a lease that the premises are in good condition and repair when they are not. That can result in an obligation to carry out repairs that existed before you entered into the lease.
- Make provision –budget for dilapidations. To ensure you set aside sufficient funds, take advice from your building surveyor. But a word of caution for tenants – if a dispute arises, a landlord may review your accounts if they are in the public domain, to see whether they reveal the amount set aside for that purpose.
- Put in place an ongoing maintenance programme. On an annual basis, this is likely to be relatively inexpensive and can be budgeted for. In all likelihood, it will be required in any event to comply with your repairing obligations. Very often, large dilapidations claims are avoided by such regular maintenance.
- Review your position before the lease expires. If you have a longer lease, it is probably best to consider doing this around three years before the end of the lease term. A review will involve a further inspection by a building surveyor, who will advise what they consider your dilapidations liability will be at the end of the lease. This will ensure you have time to adjust your provision accordingly.
- Alterations to the premises. Very often you will make alterations to a premises to accommodate the nature of your business. Sometimes a lease or licence to alter imposes a timescale within which the landlord must give notice to the tenant of their wish for the alterations to be removed. If the landlord fails to do that, while you are obliged to return the alterations in good condition and repair, you ought not be obliged to remove them. However, you may not have a right to remove them either, as depending on the wording of the lease (and any licences to alter), they may be deemed the property of the landlord.
- Diminution in value cap for larger dilapidations claims. Section 18 (1) of the Landlord and Tenant Act, 1927 provides a statutory cap for dilapidations, so the cost of the repairs should never be more than the effect of the dilapidations on the value of the landlord’s property. For example, if the dilapidations total £100,000, and the effect of those dilapidations is to reduce the capital value of the premises by £50,000, the tenant is only liable for £50,000. However, beware of clauses known as ‘payment obligations’. They are not common, but if there is one in your lease, the landlord can serve you with a notice obliging you to pay a sum equivalent to the total cost of the dilapidations, effectively bypassing the diminution argument. The courts have upheld these lease clauses, even when landlords have admitted they do not intend to spend the money on repairing the premises, creating a windfall.
- Consider undertaking the work yourself. This is always going to be a risk-benefit analysis to be conducted in consultation with a building surveyor. Depending on the nature and extent of the dilapidations work, you may decide that undertaking the exercise yourself before the lease expires will give you greater control over the cost. Of course, the contrary argument is that reaching a financial settlement with the landlord (usually after negotiation between the parties’ surveyors) creates certainty, particularly concerning any unforeseen work. There is also a tactical consideration here. Indicating a willingness to undertake the work yourself can flush out a landlord’s true intentions for the premises, helping you in settlement discussions.
- Supersession. This principle refers to dilapidations claims in which works that could be claimed for by the landlord have been superseded. An example would be proving that the landlord plans to redevelop the site. Such plans would sweep away any work that you would undertake or pay for.