There can often be circumstances when a landlord and a tenant have agreed to enter into a lease, but it may not be possible (or preferable) to complete the lease immediately. In such scenarios the parties can enter into a document known as an agreement for lease. Here we’ll consider, amongst other things, what an agreement for lease is and when its use may be appropriate.
What is an agreement for lease?
An agreement for lease is a contract between two (or more) parties to enter into a lease. The agreement will place a contractual obligation on the respective parties to enter into the lease, either on a fixed date in the future or following the satisfaction of conditions set out in the agreement. To avoid disputes when coming to complete the lease, it is preferable to agree the form of the lease and attach it to the agreement.
When do you need an agreement for lease?
If the parties are ready to complete the lease immediately, then there would no need for an agreement for lease. However, if the lease is to be entered into in say six months’ time, the parties may wish to enter into an agreement sooner to provide certainty that the lease will be entered into when required (and that the other party won’t unexpectedly back out). An agreement for lease would also be necessary where certain conditions need to be satisfied before the lease is completed, such as either the landlord or the tenant having agreed to carry out works to the premises before the lease is completed.
From a landlord perspective, it will not want to go to the expense of carrying out the works without a contractual obligation from the tenant to enter into the lease once the works have been completed. Without such an agreement, the tenant may simply walk away at any point and the landlord would be left bearing the cost of the works without the benefit of a tenant paying rent once they are complete.
From a tenant perspective, it may need to carry out works to the premises but may not wish to have to pay rent whilst the works are being carried out. Whilst one alternative would be to enter into the lease immediately and agree a rent-free period together with a licence (that is, a consent from the landlord) to carry out the alterations. However, the downside with this is often the rent-free period is for a set time-frame (such as three months) and, if the works take longer than that, the tenant will then have to start paying rent, even if the premises is not yet ready for the tenant’s occupation and use. Therefore, it may be appropriate to enter into an agreement for lease whereby the landlord allows the tenant access to the premises to carry out the works then oblige both parties to complete the lease once the works are complete. A landlord may insist that the tenant pays a percentage of the rent, or the insurance and service charge contributions (if any) whilst it is carrying out the works, on the basis that it is occupying the premises, but this would be down to negotiation between the parties.
There are various other circumstances where an agreement for lease may be essential. These circumstances will be varied but, essentially, whenever some form of action or event needs to take place then whomever is going to the trouble of ensuring those actions or events occur (whether it be the landlord or the prospective tenant) will want not want to go to the trouble and expense of procuring those events without contractual certainty that the other party will indeed enter into the lease once they have occurred. It is in these circumstances that an agreement for lease will be required. Other examples include an agreement to enter into a lease:
- upon obtaining planning permission for the tenant’s proposed use of the premises; or
- upon completion of the surrender of an existing lease before the tenant enters into the new lease.
Benefits of an agreement for lease
The main benefit of an agreement for lease is that it provides the parties with comfort that the other will indeed enter into the lease on the date (or timeframe) set out in the agreement. Failure to enter into the lease when required by the agreement will be a breach of contract and will leave the party who is in breach liable for any losses incurred by the other.
If either party needs to carry out any actions (such as, for example, undertaking works or submitting a planning application) then it will be more comfortable in doing so knowing that it has the benefit of a contract in place requiring the other party to complete the lease. Also, from a practical perspective, if a lease is to be entered into on a set date in the future it allows time for the parties to prepare for the move (for example, the tenant will be able to arrange removal vans and utility suppliers and may also be able to arrange publicity, if required).
Are agreements for lease binding?
An agreement for lease is a contract between two (or possibly more) parties. Provided the agreement satisfies the standard requirements to be considered to be a contract, set out below, then it will be legally binding:
- Offer and acceptance – there is an offer and acceptance of that offer (i.e. an offer of the lease from the landlord and an acceptance by the tenant to take the lease).
- Intention to create legal relations – the parties intend to enter into a contractual obligation.
- Consideration – there is some form of exchange of money or services (the agreement will usually include an obligation from the tenant to pay a nominal £1 to satisfy this, or it will be entered into as a deed, which, for technical reasons beyond the scope of this article, is sufficient dispense with the requirement of consideration).
- Capacity – the parties to the agreement have the capacity to enter into it.
Terminating an agreement for lease
Whilst parties will generally enter into the agreement with the full intention of ultimately completing the lease, unforeseen circumstances may arise that impact on the desire, or ability, of the parties to proceed to completion.
Let us consider a common situation – an agreement for lease that requires the tenant to apply for a planning permission and completion of the lease is conditional upon the successful granting of that permission. What were to happen if the application were not successful or, what happens if it is taking too long and, all the while, the landlord is not receiving any rent?
The answer to this is that a ‘longstop date’ should be added to the agreement. This means that if, by that longstop date, the condition in question (in this example, the granting of planning permission) has not occurred by that longstop date, then the agreement may be terminated. It will be down to the specific circumstances and the negotiation of the parties as to whether it will be only the landlord, the tenant, or both who can exercise the ability to terminate the agreement at that point. The agreement will also need to cover what will happen to any deposit paid by the tenant and whether it should be returned.
The agreement may include caveats to slightly extend the longstop date if, for example, a planning application has been submitted to the local authority and a decision is awaited, but there should always be an ultimate longstop date which, by that point, if the condition has not been satisfied the agreement can be terminated. Without the inclusion of a longstop date, it could mean that both parties could be indefinitely tied into a contract.
An agreement should also include an ability to terminate in the event of the tenant becoming bankrupt, insolvent or steps are taken to make the tenant bankrupt or insolvent, as a landlord will have little chance of enforcing the obligations in the agreement or, ultimately, recovering rent from a bankrupt or insolvent tenant.
Agreements for lease and SDLT
Stamp duty land tax (SDLT) is a tax on land transactions in England. It should be noted that in Wales SDLT has been replaced by a separate tax, known as land transaction tax (LTT), which falls outside the scope of this advice.
If a lease is granted for a sufficient length of time with a high enough rent (or a premium being paid on completion of the lease), then SDLT may be due. However, what is the SDLT situation when an agreement for lease is entered into with completion of the lease to take place at a future date? Well, SDLT is not due until completion of the lease takes place, unless the lease is ‘substantially performed’ before that date.
An agreement for lease is ‘substantially performed’ where:
- the tenant takes possession of the whole, or substantially the whole, of the premises;
- the tenant pays the whole, or a substantial part (generally 90% or more), of any money due under the agreement (other than rent); or
- any rent is paid.
What constitutes ‘taking possession’ of the premises must be considered on the specific facts of each case. However, it is generally accepted that this will include the tenant entering the premises to carry out fit-out works.
If the agreement for lease is deemed to have been ‘substantially performed’ then the SDLT due under the lease (if any) will be payable at that point (even though the lease itself hasn’t actually been completed). If the lease is not subsequently completed, then the tenant may contact HMRC within 12 months to reclaim any SDLT paid (plus interest)
Agreement for lease vs tenancy agreement
An agreement for lease is simply a contract between two parties to enter into a lease at some point in the future. It may grant the tenant a licence to enter into the premises to carry out works, but it is not a tenancy (i.e. a lease) in itself and does not allow the tenant many rights over the property.
A licence in an agreement for lease will be a personal agreement between the parties and will not grant the tenant exclusive use of the premises. Indeed, an agreement for lease may not even include a licence to allow the tenant access to the premises. Put simply, an agreement for lease is a pre-curser to a lease and may allow the tenant temporary access to the premises to undertake certain works or tasks to enable the lease to be entered into, but it should not, in itself, be relied on by a tenant for long term occupation of premises.