Break Clauses - Top Tips for Landlords and Tenants

A break clause is a provision in a lease which enables either the landlord or the tenant, or both, to end the lease early.

In today's challenging economic climate tenants are cutting back their businesses or looking to re-negotiate more favourable lease terms, and are choosing to exercise their break options. With re-letting prospects poor and landlords anxious to maintain their income stream, it is not surprising that break clauses, and in particular conditional break clauses dependent on the tenant having satisfied various conditions by the break date, have resulted in an increase in litigation in recent years.

Form and Service of the Notice

The break clause may specify the precise form in which the notice must be served and impose specific requirements as to the method of service. A failure to adhere to mandatory requirements will invalidate the notice.

Once the notice has been served it cannot be withdrawn.

Top tips for tenants:
  1. Check the names and addresses of the parties (and any care of addresses) through Land Registry and Companies House checks.
  2. Check the service provisions in the lease and in particular whether they are mandatory or permissive. If in doubt, serve by multiple methods on the landlord and its agents and obtain proofs of service.
  3. Check the form of notice required.
Top tip for landlords:
  1. Keep close to your tenant and try to establish what its intention is before it serves the notice. There may be an opportunity for you to re-negotiate terms before it serves the notice and prepares to exit the property.

Timing

The option to break may arise on one or more specified dates or be exercisable at any time after a specific period of time has elapsed on a "rolling" basis. It is important when drafting and negotiating the clause to ensure that there is no ambiguity as to when the break date is and the required notice period. Particular care is needed in understanding the period of notice required. Is it a specific period or a period of "not less" than a specific period? If in doubt, multiple notices may be needed.

Top tips for tenants:
  1. Diarise the break date and the notice period required. Aim to review your options 12 months before the notice period commences.
  2. If in doubt as to the date break, recite the precise wording contained in the lease and then invite the landlord to agree the date.
  3. Calculate the required service period carefully and serve multiple notices if in doubt. Do not leave service until the last minute.
  4. Allow sufficient time for service where your landlord is an overseas company.
Top tip for landlords:
  1. Where the break date is linked to the rent review date, consider not exercising the rent review if the rent increase is likely to cause the tenant to exercise its break option. If you do want to exercise the rent review check time limits in the rent review clause as you may need to comply with them strictly if the rent review is linked to the break.

Break Conditions

Any conditions attached to the break clause are usually found in the tenant's break clause. These must be strictly performed. Typical pre-conditions attached to a break clause include the following:

The tenant must have paid all of the rent(s) due under the lease.

This has been a continuous source of litigation over the last few years notwithstanding the fact that the courts continue to emphasise that unless there is very clear wording to the contrary, where the break date falls between quarter days, the tenant must pay the full quarter's rent and not apportion the rent to the break date.

Absent an express provision to the contrary, it is unlikely that the tenant will be entitled to a refund for the rent paid for the period after the break date.

Top tips for tenants:
  1. Check how rent(s) is defined in the lease. Is it limited to the principal rent or does it also include the service charge, insurance rent, VAT, outgoings and interest.
  2. Track back through your payment history. If interest on late payments is defined as a rent and payment of rents is a pre condition, calculate the interest that should have been paid on any late payments and ensure this is paid. In a recent case, failure to pay £130 of late payment interest prevented the break from being effective.
  3. Alert all in your accounts team to settle invoices as soon as they are received.
  4. Ask your landlord to confirm that you are up to date with all of your rent payments.
  5. If any sum is in dispute, pay the whole amount on a without prejudice basis and then argue the point after the break date unless your lease clearly provides otherwise.
  6. When negotiating the lease, limit the payment of rent pre condition to the principal rent only, as recommended by the Lease Code 2007.
  7. When negotiating the lease, ensure there is a provision requiring the landlord to refund you for the rent you have paid for the period after the break date.
Top tip for landlords:
  1. Do not draw up a "completion statement" unless the lease requires you to give notice to the tenant of sums outstanding.
The tenant must give up vacant possession

The test of vacant possession is more than just about giving up occupation. It means ensuring that all chattels and goods belonging to the tenant are removed, tenant's fixtures are removed where required by the lease or supplemental documents, keys are returned and no persons of the tenant, whether employees, contractors or security staff, subtenants or unlawful persons are in occupation on the break date. In short, the tenant must not do anything that suggests that he is continuing to use the property for himself or substantially interferes with the landlord's enjoyment of the property.

Top tips for tenants:
  1. Ensure when negotiating the lease that the pre-condition is limited to giving up occupation and providing that there are no continuing subleases.
  2. Seek legal advice as soon as possible on the precise meaning of vacant possession.
  3. Instruct a building surveyor at the earliest opportunity to advise you of any works that you need to carry out in order to give up vacant possession.
  4. Invite the landlord to confirm what, if any, alterations he requires reinstating. If the lease permits it, consider notifying the landlord of the intention to remove any valuable alterations as a negotiating tool.
  5. If you have a vacant possession pre condition, take care when granting subleases. You should ensure that the sublease is contracted out of the Landlord and Tenant Act 1954, the expiry date is sufficiently far in advance of the break date or you have rights to enter and carry out necessary works necessary to give up vacant possession.
Top tip for landlords:
  1. If the lease requires you to give notice to the tenant to reinstate alterations, ensure you do this without prejudice to your ability to enforce the break conditions.
Compliance with tenant's covenants

This condition is usually qualified so that rather than being an absolute requirement (which is virtually impossible to comply with) the tenant is required to have "materially" or "substantially" or "reasonably" complied with its obligations under the lease. The test of reasonable compliance is less onerous than material /substantial compliance but still represents a difficult hurdle for the tenant to overcome. The most difficult covenants to comply with are likely to be those relating to the state and condition of the premises.

Top tips for tenants:
  1. Carry out a lease compliance audit with your surveyor as soon as possible to advise you on your breaches of lease covenants and the works necessary to remedy these breaches.
  2. Ask your landlord to prepare a schedule of dilapidations in relation to any repair works.
  3. Try to settle dilapidations with your landlord in advance of the break date in return for a release of this pre condition (and the others if possible - see C. Settlement below).
Top tip for landlords:
  1. Ensure that any schedule of dilapidations is prepared and served without prejudice to your ability to enforce the break conditions and is marked "interim" not "terminal."

Settlement

It may be in both parties' interests to enter into a financial settlement in advance of the break date which covers dilapidations and releases the tenant from the break pre conditions. The incentive to the landlord in agreeing this is that he may be able to negotiate an uplift on any dilapidations settlement for giving the release from the pre conditions. The incentive to the tenant in agreeing an early settlement is that he has certainty that the lease is going to end on the break date and does not have to invest time and resources in trying to comply with what may be very difficult pre conditions.

Top tips for tenants:
  1. Approach the landlord as soon as possible to see whether it is amenable to a settlement which releases you from the pre conditions. Stress what the landlord stands to gain by settling early.
  2. Do not lose sight of the pre conditions. Factor in how long it will take to undertake necessary works to comply with the pre conditions and set a deadline for any settlement to be agreed and documented. The longer you leave it, the greater leverage the landlord has as it becomes harder for you to comply with any pre conditions.
  3. An agreement in principle may have been reached but unless this is documented before the break date you have no certainty that the lease will end.
Top tips for landlords:
  1. Ensure that all settlement negotiations are without prejudice and subject to contract.
  2. A dilapidations settlement may be construed as waiving the pre conditions even if there is no express release. If you want to preserve the pre conditions, it should be made clear in the settlement that the other pre conditions are not waived.