Lease re-gearing – What is it and should you be doing it?

Re-gearing a lease is the practice of renegotiating your lease terms during the course of the lease. The practice of re-gearing can be advantageous to both tenants and landlords. Philip Jacques considers the value of re-gearing of leases. 

What is re-gearing?

Examples of re-gearing include changes in the rent and rent review provisions, term extensions, variations to the alterations or alienation provisions, increasing or decreasing the demise or removing a break clause.

In essence, a compromise is reached where both the landlord and tenant come away with something they want. For example – “If you don’t exercise your break clause, I’ll give you a six-month rent-free period”. The landlord gets the certainty of the tenant’s rental income and the tenant gets a welcome rent-free period midway through the lease term. Another example could be – “I’ll pay a capital sum towards the refurbishment of the premises and in return, you accept an extended lease term”. The landlord again gets the certainty of the tenant’s rental income and the tenant gets refurbished premises for a longer period.

Why re-gear?

Advantages of re-gearing for tenants:

  • Rent free periods and the return of rent deposits increases cash-flow;
  • Opportunity to secure better lease terms can assist with current business needs, especially in anticipation of restructuring or a sale of the business (for instance where the Tenant secures more advantageous alterations or alienation provisions);
  • Remaining in the premises for a longer period provides security and comfort where tenants are happy in their existing space.

Advantages of re-gearing for landlords:

  • The certainty of rental income for a longer period;
  • Increase in the capital value of the landlord’s asset by removing break rights and/or extending the term of the lease;
  • Preserving and/or increasing the investment value of the landlord’s asset in advance of a sale or refinance;
  • Steady occupier levels mitigate empty business rates liability and costly service charges.

How is re-gearing documented?

A deed of variation is arguably the simplest way to effect a re-gear, for example, to remove a break clause or amend the alterations or alienation provisions. Other options include a surrender of the existing lease and the grant of a new lease; the grant of a reversionary lease or sometimes a side letter may suffice.

If you’re going to do it, do it right!

Re-gearing can seem a simple bargain between landlord and tenant but it is important that legal advice is sought to ensure that the agreement is documented correctly. If, for example, the premises are increased or the term of the lease is extended, this will operate in law as a surrender and re-grant which could have significant implications for tenants in respect of Stamp Duty Land Tax liability and for landlords in respect of the security of tenure rights and the release of guarantors.

The concept of lease re-gearing is a useful tool and the savvy tenant should bear it in mind, particularly where break rights are looming or the term of the lease is drawing to an end. It is however essential that lease variations are properly drafted and legal advice is sought so as to avoid adverse consequences and potential banana skins!

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