Legal Briefing

Dilapidations strategies

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Scotland | 01 May 2010

The popular consensus is that there will not be a return to pre-2008 levels of property transactions for at least a few years. It is also uncertain when, if ever, the property market will return to the boom times seen in the early part of the last decade. During this period, it was not uncommon to see tenanted buildings change hands with significant levels of capital appreciation for the sellers. Furthermore, the state of repair of the tenanted building was not often something that affected the sale price as property owners could claim that a tenant covenant would cover any repairs. However, during the recession the value of many landlords’ investments has plummeted, with the result that property owners are holding their stock pending an upturn.

In current economic conditions, should property owners and tenants change their approach to the management of their property interests? Broadly speaking, institutional leases will contain a full repairing obligation on the tenant. However, pre-recession experience suggests that interim enforcement of repairing obligations is not often high on a landlord’s agenda. Similarly, some tenants carry out minimal works during the currency of the lease and are therefore likely to fail in complying with their repairing obligations. Cash settlements are not unusual when leases come to an end. In effect, repairing obligations are often disregarded pending lease termination, when the landlord suddenly takes notice of the spectre of an empty dilapidated building looming on the horizon.

Why should landlords and tenants consider a strategy to enforce or comply with the repairing obligations during the currency of the lease? Every case will depend on its own facts and circumstances, as well as the extent of the repairing obligations in the lease, but there are several reasons for implementing such a strategy. These are as follows.

Cost of works

The cost of carrying out works in a recession is likely to be very competitive. Contractors have been hit hard by the recession and those that have survived are competing for work with what are, comparatively speaking, keenly priced tenders. Therefore, building and repair works can generally be done at a lower cost than in previous years. So it is possible that tenants could mitigate their liability by organising works during the lease term at a much lower cost than the landlord’s estimate of works at lease expiry. Of course, tenants will also have to bear in mind that carrying out works to the premises will not be risk-free and there is no guarantee that the landlord will agree that the works have been done to the requisite standard.

Break notices

Tenants are looking for the best deal more than ever, which switched-on property managers will know means they will serve break notices and notices to quit when given the chance. Landlords are therefore facing the prospect of empty properties that will be less attractive to potential tenants in their dilapidated state and should seek legal advice to prepare themselves for this possibility.

Tenants should be aware that break clauses sometimes stipulate that a break can only be exercised if there has been material compliance with all the obligations incumbent on them. If a break clause is worded in a sufficiently precise manner (see the comments of the Inner House of the Court of Session in Trygort (Number 2) Ltd v UK Home Finance Ltd & anor [2008]), a tenant could find themselves in a position where, in the absence of the works being done to keep the premises up to the standard required by the lease, the landlord could view the break as invalid. Litigation could then ensue as the parties argue over whether or not the break has been properly exercised.

Cost of repairs

Landlords should pay close attention to what the lease sets out in relation to repairs to both the premises and common parts. Some leases will make it clear that the landlord can only recover sums expended on work to the common parts if the work has been done and paid for during the currency of the lease. However, some leases will make it clear that if a landlord has incurred liability for repair to the common parts (by entering into a contract for the works, for example), costs can still be recovered from the tenant, albeit after termination.

If a tenant has complied with their repairing obligations, they are less likely to face a loss of rent claim from the landlord. Where a tenant has not complied with these obligations and the landlord is faced with a void following lease expiry, the landlord can claim for loss of rent for a reasonable period, given that they will be faced with repairing the premises. It is also worthwhile checking whether there are any liquidate and ascertained damages clauses in the lease to deal with loss of rent, as these can prescribe the sums due by the tenant. It is likely that these clauses will be held as enforceable against the tenant. The Scottish courts have held that a liquidate and ascertained damages clause will almost inevitably be upheld, even if the actual loss has proved to be much less or even non-existent. (See the decision of the Inner House of the Court of Session in City Inn Ltd v Shepherd Construction Ltd [2003].)

Specific implement

A clear dilapidations strategy will be more effective if the landlord begins enforcement action well in advance of the expiry of the lease. In Scotland, landlords have a powerful court remedy in their armoury called specific implement. A specific implement action allows landlords to force the tenant to comply with their repairing obligations during the currency of the lease. Once the lease comes to an end, and unless the parties have contracted to the contrary, the landlord’s primary remedy will be damages. Landlords should be aware of the identity and covenant of the relevant tenant. It is possible to envisage circumstances in which a damages claim could become more difficult, such as where the outgoing tenant is a foreign company retrenching its overseas operations.

Comment

While this article aims to give landlords and tenants some food for thought, there may be compelling reasons for either party not to consider carrying out works to comply with repairing obligations during the currency of a lease. In these situations, there is always the possibility of a cash settlement. However, where such a settlement is being considered, landlords and tenants should remember that there are other issues that can defeat or drastically reduce any potential claims for damages. While it is difficult to generalise, landlords and tenants should think carefully before they rule out action to comply with or enforce repairing obligations during the currency of a lease.