Commercial leases are there for those who need to run a business from an address but what makes these kinds of leases different to anything else? Are there different types of commercial lease agreements and what else do you need to be aware of before you sign one in the UK?

As you read this article you will learn how to legitimately set up a commercial lease as well as what to include in the agreement with a tenant. It is crucial you understand what the legislation says so you can stay on the right side of the law.

A business owner in a commercial lease

What is a commercial lease?

Commercial leases are agreements in place for those running a business out of the property they are renting. Much like you may sign a tenancy agreement for a property to live in the property residentially, if you plan on moving into a property to conduct any form of business or register your company at this address, this is called a commercial lease. Examples of commercial leases include shops or offices.

In the same way, there is a landlord who owns the property and a commercial tenant will let out the property for a certain period of time.

Who should be involved when you sign a commercial lease?

It is only necessary for a tenant and a landlord to be in the commercial lease agreement. However, it may be that a management company is also involved in the deal because of the terms of the agreement.

If a management company is involved in the deal, they are usually called a right-to-manage company or a block management company. They take over the management of the premises and become irresponsible for managing everything with the permission of the landlord.

This means any tenants of the property will refer to the block manager to conduct any changes to the space they are renting out or to sublet their space to individual businesses. The RTM company or block manager will then liaise with the landlord if necessary to make sure everything in the property is conducted in the right way.

Can you ever have a verbal commercial lease agreement?

Verbal agreements or oral commercial lease agreements are often hard to enforce like any other type of tenancy agreement. However, there is a chance that it could work out well if there is already a previous relationship between the landlord and tenant or the tenant and subtenant in a property.

Overall, it is largely recommended to form a written commercial lease agreement as it is easy to produce evidence if there is a breach in the commercial lease agreement by either the tenant or the landlord. Also, most of the time, a block manager will have rules in place so that all the tenants have to sign a written commercial lease agreement.

Nonetheless, it is certainly possible for some of the negotiations to take place verbally and for rent offers to be conducted orally or verbally. However, if there are ever holding deposits paid or there are tenant references taking place, the landlord will have to get written permission from the tenant for this too.

Also, check out where in the UK you are signing the commercial agreement because, in Scotland, missives have to be written down for any negotiations of the purchase of a house and sometimes for commercial agreements too. This is in place to prevent immoral negotiation tactics such as gazumping

What is an assignment lease?

Tenants in assignment leases are those that have a commercial lease agreement transferred to a different tenant. For example, if a tenant doesn’t want to stay in a commercial property, they can transfer the agreement to a new tenant and all the covenants included, making the new tenant responsible.

Of course, the new tenant would have to agree to this and check over the commercial lease agreement the old tenant signed in detail but it can be done and work well for both parties. This is common in commercial leases because they are signed for long periods of time so it is harder for tenants to end their agreement early leaving them with no choice but to transfer it.

A shop that has signed a commercial lease

What should a landlord consider before signing a commercial tenant?

When a landlord signs a commercial lease, there are a few key things they should include in the commercial lease agreement and also some things to look out for. This is because a property that is signed with a commercial lease is different to a standard residential one.

A tenant’s personal details

Like a residential lease, the tenant should include their personal details. There should be a company owner who signs off on the lease of the property which can be done on behalf of a business owner by someone working in HR. This can include:

  • The company name
  • The name of the person who owns the business
  • The date when the lease was signed
  • The address 

The property that is being rented

In this section of the commercial lease agreement, the landlord can include things like the size of the property that is being rented, details about what equipment will be provided and start and end date of the tenancy agreement.

The repairs of the property

Sometimes there is a clause in a lease that says a tenant must leave the property in substantial repair. This is known as a full and insuring lease. If the property starts off in bad condition, then it would become the tenant’s responsibility to improve the property and then leave the property in this same condition when the end of the lease occurs.

A landlord can make this simple by including a property inventory that includes all of the original defects of the property and in this document, it will state what condition the landlord expects the tenant to leave the property in. This puts a lot of responsibility on the tenant and makes sure there is evidence to show that it is the commercial tenant’s fault if the property isn’t brought up to standard.

The amount of rent

The amount of rent that should be paid should be included in this section of the commercial lease agreement. On top of this, the period of rent should be stated. For example, whether the rent should be paid weekly, monthly or every quarter. Depending on the tenancy agreement, some landlords may prefer commercial tenants to pay every fortnight too, but this is rare.

Sometimes, lease options can be written in this part of the commercial lease agreement too. This gives a tenant the option to purchase the property over time if they want to go into this type of contract. The rental payments go towards this agreement and one day in the future they may be able to purchase the property for a below market value price.

The term of the agreement

The “term” (seen here) refers to the length of time the landlord expects the tenant to pay rent. This doesn’t mean the commercial lease agreement cannot continue for longer but it does mean the tenant will face potential commercial fines if they want to end the tenancy agreement early.

A bakery with a commercial lease

This is often called a “fixed term” which is where the tenant is protected from eviction but the landlord also must receive rent for the property during this time even if the tenant wants to leave, or face a fine. The term can include break clauses within the term too which provide opportunities for the tenant and landlord to negotiate rents, end the tenancy or just change any parts of the commercial lease agreement they want to fix.

If there is a break clause in the tenancy

Tenancy break clauses help “break up” the fixed terms in a tenancy agreement. This gives either the landlord or the tenant the opportunity to end the tenancy early. This is a standard practice because even if each party believes they want to have the commercial lease agreement in place for a long time, there is a chance that the economy could change or unexpected circumstances could occur.

When break clauses are involved, a ten-year lease could be broken down into as little as three month or six month periods. In this case, the commercial lease agreement will state there is a “break clause every six months” for example. This is a common term in a lot of agreements, not just tenancies as outlined in this article here.

Alternatively, in a periodic tenancy, break clauses in a commercial lease agreement could be signalled by the agreement stating that the tenancy agreement can be terminated at six months notice for example. In this case, if the tenant wants to move out of a property in six months time, they can hand in a notice that will make the landlord aware of this well in advance.

Typically, the shorter the period of time the tenant pays rent for, the shorter the period of time needed to be given as a notice the tenant is going to leave the premises. 

If the landlord should allow subletting

Sometimes, commercial leases are given to tenants who sublet the property to smaller tenants and have to guarantee the rent to the landlord. Tenants may sign up for this because dividing the property up into smaller areas and renting them all separately in a commercial sublet agreement allows the rental yield to be increased.

For example, there may be a clause in the commercial lease agreement that allows the tenant to rent out an entire floor of a commercial property and then lease every room in the property individually to separate business. This has benefits for the landlord because they no longer have to worry about finding new tenants as this responsibility is passed down to the tenant who will find smaller tenants themself.

In this way, a landlord can operate without a letting agent. The method guarantees the landlord will make a certain amount of rent as regardless of if the head tenant is able to sublet the property or not they still will have to pay rent to the landlord. However, it is likely that the landlord would have to charge a reduced amount of rent for this to happen.

What the permitted use is of the property

The permitted use is one the most common clauses in a commercial lease agreement as it defines what the business can do as they operate. This is because not all businesses are the same and a commercial landlord may not want to let their property out to all types of businesses as the property may only be designed for a certain type of tenant.

A commercial property with customers obeying the permitted use of the commercial lease

As an example, if the property is made for office use, it would be disallowed for the tenant to be able to cook food in the property or perhaps include certain types of equipment in the premises. This would all be included in the category of the commercial lease agreement related to the permitted use.

The security of tenure

A security of tenure refers to if the tenant has the right to ask for a new lease after the original lease of the commercial tenant runs out. If requested, a landlord can only refuse to renew the tenancy under certain grounds that have to be agreed upon. 

Common reasons for renewal include the commercial tenant not paying enough rent or the tenant not agreeing to the permitted use of the property.

What is the difference between a residential and commercial property lease in the UK?

The obvious difference is that a residential lease is for a tenant living in the property rather than running a business. However, there are also differences in the tenancy agreement. The differences relate to the below criteria.

The length of the tenancy agreement

While there are no specific laws around the maximum length of a commercial agreement, commercial agreements usually last for 5 years rather than one or two like most residential leases. This is because businesses tend to operate for a longer period of time.

Especially businesses that have passed commercial tenancy referencing and are shown to be businesses that have been operating profitably for decades. A tenant like this can comfortably sign a lease for a long time as it is not risky for a landlord as they’ll have a good idea the tenant will be able to pay rent in their commercial lease.

It used to be the case that a tenant could sign a leasehold that expires in old UK law but this is no longer the case. Either way, commercial leases are certainly longer on average as businesses tend to be set up for a longer period of time. Especially if the business is already established.

The amount of rent you pay

Commercial leases tend to demand higher paying customers than residential tenants. It is common for a landlord to charge rents that are £5,000 per month whereas if this kind of rent was charged in a residential property, it would have to be in a very expensive area or the prperty would have to be extremely large. 

The reason why commercial leases are often charged more is because they are usually in areas where there is higher demand anyway such as near public transport and in high demand areas in cities. Also, large office space can often exceed the square footage of residential properties in comparison.

Commercial leases are more restrictive

Commercial leases have terms in the agreement that often demand more from the tenant. Examples of restriction include different signage, operating hours and certain equipment and activities that aren’t allowed.

disputes are managed differently

The law that rules over your lease agreement is based on the location of the property, not where you or your landlord resides.

Also, if any disagreements or disputes happen to pop up, it’s the local council for that property that steps in to sort things out.

How should a deposit be paid for a commercial property?

Like residential deposits, they are taken because tenants sometimes break the terms of their tenancy agreement and the landlord is required to keep a tenancy deposit so they can recover the financial loss of whatever term of the agreement was broken.

In a commercial property, a rent deposit can be taken when a tenant signs a new commercial lease. Reasons for the landlord wanting the lease include if the tenant is an overseas company or a new company without much evidence of good behaviour as a tenant.

How much is a commercial deposit?

Unlike a residential property where a maximum of five weeks’ rent must be charged, there is no restriction for commercial tenants because of the range of variables involved in a commercial lease. The deposit is therefore usually calculated by taking six to twelve months of rent.

When charging a deposit, VAT shouldn’t be paid and utility bills may be included in the cover for the rent. For example, if the landlord charges £1000 for rent and also £500 for bills, it would be the landlord’s choice to calculate the deposit charged by adding together 6 months of rent for the bills and rent combined (£1,500) or just £1000.

How long can a commercial lease last?

A commercial lease can last up to twenty years. However, with different clauses surrounding break clauses, security of tenure and the length of the fixed term involved, a commercial lease doesn’t necessarily have to go on for that long. Even if this was originally written in the commercial lease agreement.

How to terminate a commercial lease

There are a few reasons for the landlord to require their property back from the tenant even if the tenant is in a fixed term of their agreement that is meant to protect them from eviction. These include:

  • The landlord needing to repossess the property so they can sell or redevelop it
  • The tenant has breached their agreement or they have rent arrears
  • The property has been sublet and the landlord wants to charge a higher rent to let the entire property themselves

Who signs the lease in a commercial property?

In a commercial agreement, there are two people that sign the lease, the landlord and the tenant. So, there is no clear difference in how agreements work in this sense.

Nonetheless, there may still be other people who are included in the agreement such as guarantors.

 

commercial lease on a property for sale

In summary

It is important to understand commercial leases differently from any other type of lease like residential ones because the rules that are needed for one simply aren’t applicable to another a lot of the time. Hence, there are different and unique rules and regulations for commercial properties. 

For more on the exact legislation that governs them click here. Nonetheless, you should be able to gain a detailed understanding by reading this article.

Also, if you want to save the information in this guide so you can reference it later or go over it with a legal professional, download the full document below.

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andreas gerazis

Andreas Gerazis

Experienced landlord

Andreas is a certified landlord with extensive knowledge about the UK property market as he has been actively investing for half a decade. Founder of the first three-in-one property management software, Lofti Proptech, Andreas has a brilliant understanding of the details surrounding what it takes to grow and run a thriving property portfolio.