Don't forget about mees and green lease issues
What lies ahead?
ESG considerations continue to dominate conversations between commercial landlords and their tenants. The aim to reach net zero by 2050 has been a wake-up call for many landlords to consider investing in portfolios to achieve this goal. Tenants are increasingly requesting "greener" properties with better facilities and lower operating costs to help promote their business as energy efficient. Green issues are starting to come to the forefront in lease renewals and dilapidations disputes. We await with interest what the future will hold in such areas. In the meantime, it is useful to consider the current state of play.
One thing does remain certain, landlords can no longer ignore the impact of the Energy Efficiency (Private Rented Property) (England and Wales) Regulations 2015 (MEES Regulations). From 1 April 2023 it is now unlawful for landlords to continue to let a commercial property with an F or G EPC rating (known as "sub-standard" properties under the MEES Regulations), even if the lease was granted prior to the MEES Regulations coming into force in 2018 (subject to certain exemptions). See here for the implications and commercial considerations.
In 2022, the government estimated that around 18% of commercial properties in the UK were F or G rated. Some of these may have been brought up to standard to meet the 1 April 2023 deadline. However, it does seem likely that there will still be a large number of properties out there where there will be tensions between landlords and tenants as each party grapples with being green in their own way and determine where the risk and compliance with MEES should sit in commercial leases.
Lease renewals and "green lease" clauses
The Clipper Logistics Plc v Scottish Equitable Plc case is of interest to landlords, tenants and managing agents as it provides a useful insight into how the court may approach adding "green lease" terms in lease renewal proceedings brought under the Landlord and Tenant Act 1954 (1954 Act).
As more landlords look to improve the energy efficiency of their properties, this case suggests that the courts may not be willing to tolerate landlords’ attempts to offload their green liability where that would impose new and additional burdens on tenants. Any additional tenant’s obligations proposed in a lease renewal must be considered by the court to be ‘fair and reasonable’ in the circumstances of the case.
The landlord wished to add the following alteration covenants to the renewal lease:
- to prohibit the tenant from carrying out any alterations or additions to the property which would result in the property being designated as a “sub-standard" under the MEES Regulations (Prohibition Clause);
- to require the tenant to indemnify the landlord for the cost of obtaining a new EPC certificate if they were to make any alterations which invalidated or adversely effected the EPC (Indemnity Clause); and
- to oblige the tenant to maintain the current EPC rating, return the premises to the landlord with the same EPC rating and promptly to undertake remedial works to the property to restore the EPC rating if it were to fall (Reinstatement Clause).
The landlord's argument was based on concern that the EPC rating for the property could be lowered by the tenant, placing the landlord in breach of MEES and leaving it with the cost of remediating the property. Whereas the tenant argued it should not be required to bear the cost of compliance with MEES as this compliance should fall to the landlord.
The court's approach
The court’s starting position was that it is the landlord’s responsibility to comply with energy efficiency regulations. It acknowledged that, without any mechanism to regulate the tenant’s actions, a landlord could be “placed in breach of the regulations through no fault of their own”.
Following the approach set out in the leading case of O’May v City of London Real Property Company, the court determined that it would be unfair to include the proposed obligations as they would impose unreasonable duties on the tenant beyond those included in the previous lease. Given the current provisions in the lease, it did not consider all of the proposed clauses to be necessary.
The court’s aim was to “strike a fair and reasonable balance between the parties” and to only add clauses which could “be justified on the grounds of essential fairness”. On this basis, the court decided that the existing prohibitions in the lease on alterations were sufficient to protect the landlord from tenant acts that could damage the EPC rating of the property.
The court did show some sympathy for the landlord, however, in that it permitted part of the Reinstatement Clause so that the tenant would be required to return the property with the same EPC rating as at the start of the lease. Without this, the court recognised that the landlord would not have the benefit of any real protection against inaction by the tenant over the 10 year term of the lease.
No assumption that a landlord can automatically include clauses to protect its mees position
It should be noted that Clipper Logistics Plc v Scottish Equitable Plc is a County Court decision. Whilst the decision may be indicative of the approach the courts are likely to take going forward, it does not act so as to bind them.
The judgment shows, however, that whilst the court may have sympathy for the landlord’s vulnerability under the MEES Regulations, adding obligations on tenants to attempt to reduce the landlord’s liability will not be considered fair or reasonable in the context of lease renewals. That said, the decision in this case was no doubt influenced by the other existing clauses in the lease which the court felt would provide an element of protection to the landlord. The case does show that it cannot be assumed that a landlord will automatically be able to include clauses to protect their position in relation to MEES.
It is a little too early to say with certainty where green leases and landlord and tenant requirements will move to over the next few years. It is likely that we will continue to see a growing number of "green lease" terms being proposed in new leases and in lease renewals with such clauses becoming ever more prevalent.
Some feel that there a two- tier market may arise where landlords of a greener building will be able to request a higher rent. Although it is an offence for a landlord to let a sub-standard property, the lease itself is still valid and effective. It does, however, beg the question of the impact on rental value and loss of reputation for non-compliance.
It seems inevitable that disputes will continue to emerge in the green arena. The hope remains that landlords and tenants will collaborate and that the court will intervene for the common good to reach a fair and reasonable compromise to balance the objectives of both parties.