Break options in commercial leases

Many tenant clients will be unaware of the problems that can arise when trying to exercise a break option in a commercial Lease.

Case law has made it very clear that the terms of the break clause must be strictly adhered to. This means that the requirements as to service of the break notice must be followed to the letter i.e. if the break clause says that notice must be written on blue paper then it must be written on blue paper or the notice will be invalid. Provisions in the lease governing the service of notices must be followed to the letter. These will usually permit service by first class post and sometimes by recorded delivery. However the problem with first class post is that you will not get a proof of receipt so if recorded delivery is not an option or time is running short it is worth considering whether to serve the notice by hand using a document courier or even a process server. The latter can be particularly effective if the landlord is likely to try and avoid service. It goes without saying that the extra expense will be negligible compared to the prospect of the Lease continuing until the expiry of the term or the next break date.

It is also important to make sure that the notice is correctly addressed. Consider carrying out searches at the Land Registry and Companies House and check the most recent rent invoice or other communication from the landlord. If in doubt, send the notice to all the addresses that you can find.

If the break clause incorporates any conditions which must be complied with before the termination date then these must be strictly complied with or the break option will not have been validly exercised and the Lease will continue. Some common conditions include:

• A requirement to pay the rent up to date – unless this specifically provides for the rent to be apportioned up to the termination date then the rent will need to be paid up to the next rent payment date and the tenant can look to recover the rent for the period between the termination date and the next rent payment date after termination. Also check whether this includes service charge, insurance rent and any other sums payable under the lease. If so check carefully to make sure that any sums which have been demanded up to the termination date are paid prior to the termination date or it could have fatal consequences for the exercise of the break option. The motto here is pay now and argue about it later. Any disputes e.g. over service charge should not be used as a reason to withhold payment in these circumstances.

The recent case of Avocet Industrial Estates LLP v Merol and Another presents another problem for tenants insofar as if the break option is conditional on the tenant having paid all sums due under the lease then this will include any interest payable in respect of late payments of rent or other sums due under the lease. This is particularly problematic because the obligation to pay interest on late payment normally arises automatically under the terms of the lease without any requirement for the landlord to demand payment of the interest from the tenant and in practice many landlords will not bother to do so because the amounts involved are usually fairly insignificant. However this will not prevent an unscrupulous landlord waiting until the termination date has passed before notifying the tenant that, as a result of previous late payments, interest is outstanding and the break option has therefore not been validly exercised. The first thing that the tenant should do is review its payment history carefully and identify any late payments and work out any interest that may have been due. The total amount of interest should then be paid to the landlord before the termination date and the landlord should be asked in writing to confirm whether it believes that there are any other sums outstanding under the lease. The letter to the landlord should state that in the event of dispute the letter will be shown to the court. This does not mean that the landlord is under any obligation to cooperate but we do not think that a court would look favourably on a landlord who has been deliberately obstructive.

• A requirement that the tenant has complied with all of its covenants under the lease. This may be limited to material compliance. Either way it is a very onerous condition and means that the tenant will have to review the lease very carefully and ensure that there are no outstanding breaches. This is particularly relevant in the context of the repairing, decorating and reinstatement covenants where if absolute, not material, compliance is required even the slightest item of disrepair can be sufficient for the break option to have not been validly exercised. If the tenant is stuck with this condition then it will have to either do a Rolls Royce job on the dilapidations before the termination date or, preferably, agree a dilapidations settlement with the landlord prior to the termination date. However in the case of the latter beware that the landlord is under no obligation to cooperate with any attempts to negotiate a dilapidations settlement and a cunning landlord may allow the tenant to believe that a settlement will be reached prior to the termination date without actually doing so and then refuse to accept the exercise of the break option has been validly exercised when the termination date has passed without the dilapidations work being carried out or a settlement having been agreed.

Needless to say break options can be extremely tricky areas and it is recommended that any tenant looking to exercise the break option takes legal advice well before the break notice needs to be served. If you would like any further help with this issue, please contact me at nicholas.davies@edwincoe.com.

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