One of the most crucial concerns for both landlords and tenants when negotiating a commercial lease is the repairing obligations of each party.
In this article, we will consider the effect different types of commercial leases have on these repairing obligations and how best landlords should approach common qualifications sought by tenants to same.
Different Categories of Lease
Broadly speaking, there are two types of commercial lease – a full repairing and insuring lease (“FRI Lease”) and an internal repairing and insuring lease (“IRI Lease”).
FRI Leases
An FRI Lease is typically used for a long term lease of an entire building. It is the gold standard lease for a commercial landlord as it passes full responsibility for repairs and insurance on to the tenant. This enables the landlord to preserve the value of its property as an investment at little or no cost.
IRI Lease
Leases of units in a multi-let building or development, on the other hand, tend to be IRI Leases, which limit the tenant’s repairing and insuring obligations to the interior of the leased premises. As a result, responsibility for the repair of the structure, exterior and common parts of the building in an IRI Lease remains with the landlord. However, in a well drafted IRI Lease, the cost of these repairs should, for the most part, be recoverable from the building’s tenants via the mechanism of service charge. To ensure maximum recoverability, it is important to take extra care when defining both the “demised premises” and the “retained parts” in an IRI Lease so as to ensure that there are no gaps or overlaps in what either party is required to repair.
Common Qualifications
The most common qualifications sought to a tenant’s repairing obligations are as follows:
Schedule of Condition
A standard repair covenant typically requires the tenant to “put” and/or “keep” the leased premises in good repair and condition. To avoid any obligation to put the leased premises into a better state of repair or condition than they were in prior to the tenant’s occupation, tenants will usually seek to limit their repair covenant to exclude damage caused by existing defects. If the landlord is agreeable to such an exclusion, a Schedule of Condition is prepared for annexing to the lease which provides a detailed recording of the state and condition of the premises prior to the term commencement date and specifically identifies any existing defects or wants of repair. The repair covenant in the lease is then caveated so that the tenant is not required to put the premises into any better state of repair or condition that as is evidenced by the said Schedule of Condition.
It is in the interests of both landlord and tenant to agree a Schedule of Condition in advance of the completion of a new lease. Where an agreement is reached at the outset as to the condition of the premises and any required repair work, the risk of potentially costly disputes over repairing obligations and dilapidations claims at the end of the lease term is significantly reduced.
Fair Wear & Tear
Another common exception tenants seek to incorporate into the repair covenant is that of “fair wear and tear”. Fair wear and tear may be defined as the deterioration in the condition of the leased premises caused by normal, everyday usage during the period of the lease. What is deemed fair wear and tear in any given case will differ depending on the type of business the tenant conducts at the leased premises. For example, an office with a staff of 15 people will have less impact on the flooring than a retail business with hundreds of customers walking through its doors on a daily basis.
Depending on the tenant’s proposed user of the premises, the strength of a tenant’s repairing covenant could be significantly diluted by a fair wear and tear exception, in which case a landlord would be well advised to avoid agreeing to same.
Latent and Inherent Defects
Latent and inherent defects are defects due to the design or construction of a property which existed but were not apparent on completion of the building works. As it may take years for the existence of such defects to come to light, a tenant leasing a newly built premises will usually seek to qualify its repairing obligation to exclude liability for damage caused by same. In addition, if the leased premises forms part of a multi-unit building or development, a prudent tenant will also seek to exclude the costs of carrying out any required repair work from the service charge.
The most equitable way to approach such a request on the tenant’s part would be to either:
- agree to the exclusion sought but limit it in time and to the ability of the landlord to recover the costs of any required repairs elsewhere (either through warranties or insurance); or
- by way of compromise, offer to provide collateral warranties for the benefit of the tenant from all parties involved in the original construction / design of the building, thereby granting the tenant a right of direct recourse against the warrantor (note – ordinarily, this is only an option in newly built or developed properties, and would depend on the terms of appointment of the various professionals involved); or
- where a tenant has concerns about the strength of the collateral warranties being offered, a latent or inherent defects insurance policy could be taken out instead of or in addition to the warranties being provided. As these policies can be expensive to put in place, the cost of the premium in respect of same should be discharged by the tenant where the policy has been put in place at the tenant’s request.
Insured & Uninsured Risks
Insured risks are risks which the landlord agrees to insure the premises against, subject to the tenant reimbursing the premium. The definition of insured risks may vary from lease to lease but will, in general, include normal perils such as fire, explosion, storm etc. As these risks are insured, it is standard for a tenant’s repair covenant to be drafted to exclude liability for damage caused by same. The tenant is also usually granted a rent suspension period pending reinstatement of the premises together with a right to terminate the lease if such reinstatement has not occurred within an agreed period (usually three years).
While exclusions for damage caused by insured risks are the norm, the position regarding damage caused by uninsured risks is different. Uninsured risks are generally defined as an insured risk (as defined in the lease) for which cover is not available on commercially reasonable terms. Traditionally, liability for damage caused by uninsured risk has been borne by the tenant. However, it is becoming increasingly common now for tenants to seek to exclude their liability in this regard and to pass the burden of any required repairs back on to the landlord. In line with the position regarding insured risks, tenants are also seeking rent suspension periods pending reinstatement and a right to terminate the lease if reinstatement does not occur within a specified period. Whether a landlord will agree to such demands will largely depend on the covenant strength of the tenant and bargaining position of the parties. A landlord who is considering accepting such an exclusion should bear in mind the following:
- The landlord will be reinstating at its own cost. Accordingly, it is important that the lease is drafted so as to provide the landlord with an option to reinstate rather than an obligation to do so.
- The lease should include a right for both landlord and tenant to terminate the lease if the landlord fails to notify the tenant of its intention to reinstate the premises within a specified period (“the Election Period”).
- The length of the Election Period should be carefully considered so that sufficient time is afforded to the landlord to evaluate the extent of the damage caused and the costs of reinstatement.
- If the landlord serves notice of its intention to reinstate the premises on the tenant within the Election Period, the tenant should not be afforded any right to terminate the lease unless the landlord fails to reinstate the premises within an agreed period (usually three years).
The extent of any exclusions agreed in the tenant’s repair obligation will depend on a number of factors. These can range from the age of the property to the strength of the tenant, and even the bargaining position of the parties. The exclusions agreed, if any, will therefore be a matter to be commercially agreed between the landlord and tenant in any particular letting. While this article sets out the more common exclusions, it is not an exhaustive list.
How we can help
If you have any queries or concerns, or would like to discuss the above in further detail, please feel free to contact Anne Marie Jennings in our Real Estate Department (amjennings@bhsm.ie / +353 (0)1 440 8336).
This article is for general information purposes. Legal advice must be obtained for individual circumstances. Whilst every effort has been made to ensure the accuracy of this article, no liability is accepted by the author for any inaccuracies.