Break options on lease renewals: a landlord’s bona fide intention

What matters

What matters next

Shoosmiths' Natalie Aldread explores two recent cases and their implications for break options and the renewal of a business tenancy under the Landlord and Tenant Act 1954

It is often assumed that where renewal of a business tenancy under the Landlord and Tenant Act 1954 has not been opposed, the bar is reasonably low to include a landlord’s break option in the new lease.

Two recent cases do, however, indicate that this is not always the case.

While a landlord does not need to evidence its future intentions to the same degree as if it was seeking immediate possession, if it can show that it would be able to establish a ground of opposition in the future, this may weigh in its favor.

Legal position

Under section 35 of the 1954 Act, the ‘other terms’ of any renewal tenancy (i.e. those other than the premises, rent and duration of term) are determined having regard to the terms of the current lease, and all other relevant circumstances.

Where one party is seeking to depart from the current terms, it is well established that the case of O’May v City of London Real Property Co Ltd [1983] 2 A.C. 726 requires the court to weigh up those relevant circumstances - carrying out a balancing act between the needs of both parties in order to decide what is fair and reasonable.

The burden of persuading the court to change the terms of the tenancy is with the party proposing the change. In both of these recent break option cases, this was the landlord.

Flexibility for redevelopment

A judgment was handed down upon appeal in B&M Retail Ltd v HSBC Bank Pension Trust (UK) Ltd [2023] EWHC 2495 (Ch).

The case concerned a shop in Willesden that was let to a retailer and where a section 26 request had been served seeking a renewal tenancy.

Due to a post room mishap, the landlord missed the deadline to oppose renewal, which it would otherwise have done under section 30(1)(f) of the 1954 Act – the intention to demolish or reconstruct the whole or a substantial part of the premises - because it had already entered into a conditional agreement for lease (AFL) of the premises with a new tenant.

The AFL included an obligation to carry out substantial works of demolition and construction.

Because it could not oppose the grant of a renewal tenancy, the landlord sought inclusion in the renewal lease of an immediately operable break clause.

Although under the AFL the date by which the landlord needed to obtain vacant possession was not until 3 February 2025, it is important to remember that because the renewal lease with the existing tenant would itself be protected by the 1954 Act, an immediately operable break clause did not necessarily guarantee the landlord possession of the premises.

The landlord would first be required to finalise the new lease, then serve both its break notice and a section 25 notice under the 1954 Act, before then applying to court for possession, with the requirement to prove its ground of opposition at trial to obtain judgment, which it would need to have by no later than 12 October 2024 to allow time for appeal. There remained a risk that even with the immediate break clause, the landlord might not have been able to meet the contractually agreed longstop date.

At first instance, the judge was satisfied that there was a “real possibility” of redevelopment, and therefore ordered that the new lease should be for a term of five years, but also contain the immediate redevelopment break clause requested by the landlord - exercisable on giving six months’ notice.

The existing tenant appealed, arguing that the judge failed to engage the necessary balancing exercise between the landlord’s desire to redevelop with its desire to have security of tenure.

The appeal was dismissed. Although, in some circumstances, it would be reasonable to delay the operation of a break clause, the court held that a landlord should not be prevented from pursuing a redevelopment plan.

The authorities in the first instance and appeal judgments placed a great deal of emphasis on the policy importance of not inhibiting development more widely, not just in situations where the landlord can prove it has a pressing need to retake possession so that works can be carried out.

While there are various factors for and against the inclusion of a break clause, the court has wide discretion to carry out a value judgment and can direct the insertion of break clauses as fair and proper in all circumstances – in line with the O’May test.

Counterbalance

The court was also required to carry out a value judgment in the case of BMW (UK) Limited v K Group Holdings Limited [2023]. Here, the relevant ground was s.30(1)(g) of the 1954 Act - the landlord’s intention to occupy the premises for the purpose of a business to be carried on by the landlord.

The tenant sought renewal tenancies of its showroom at 70 Park Lane, London, which was let under four separate leases.

The parties had agreed that the new leases should be for terms of 10 years, but the landlord also sought a break option in one of the renewal tenancies, exercisable at any time on six months’ notice - from and including the second anniversary of the term up to and including the fifth anniversary of the term. The relevant lease was for the middle section of the showroom.

These renewals were also unopposed, and so the question was not whether the landlord had the requisite intention to occupy the showroom now, but whether it would be able to establish ground (g) at some point in the future when exercising the break option.

The issue for the court was whether the landlord’s intention was more than just a mere thought, and the possibility of a bona fide decision to exercise a break clause if granted.

Unlike the previous case, the landlord’s evidence here was only that it might in the future run a car-related business from the premises.

It was clear from witness evidence that the business plan had been imagined during the initial renewal negotiations, when the landlord suspected that the tenant might vacate the unit. There were no documents that could be provided that related to any corporate discussions about running such a business, and no decisions had been made about precisely how the new business would work.

The judgment highlights the difference between a “sketchy and relatively unformed” but still genuine intention to occupy the premises, and a vague, unsupported idea of what such occupation might look like if the landlord had to find a new use for vacant premises.

The landlord’s evidence did not show a genuine and workable decision to occupy the premises. Balanced against the tenant’s needs, the inclusion of a landlord’s break option in the renewal lease would have a dramatic impact on the tenant, which was deemed to be unjustified.

Learnings

It is key to remember that in both cases, the renewal leases would have the protection of Part II of the 1954 Act, and to exercise the break option, the landlords would also be required to prove a ground of opposition under section 30(1).

Inclusion of a break clause does not necessarily mean that the tenant will lose possession of the premises. It simply provides flexibility for landlords considering their options going forward, while ensuring a reasonable degree of security to tenants.

Landlords must remember that, while they do not need to prove that the premises are ‘ripe for development’, it is helpful to be able to show the possibility of exercising the break option.

When considering whether such a clause should be included, what will be reasonable in the circumstances will always be a value judgment for the court, and that degree of discretion allows for considerable flexibility.

Factors to consider when carrying out the balancing test in relation to landlord’s break options on renewal

Tenant

  • O’May principle – if there is no break clause in the current lease, the landlord will bear the burden of proving it is fair
  • Security of tenure
  • Financial hardship caused to the tenant
  • Loss of goodwill
  • Job losses

Landlord

  • Right to redevelop
  • Possibility of a bona fide intention to operate the break clause
  • Evidence of that intention, even if “late” and “sketchy”
  • No need to demonstrate financial viability and durability
  • No need for the site to be ‘ripe for development’
  • No need for the redevelopment/occupation to be imminent

This article was first published by EG on 27 November 2023.

Disclaimer

This information is for educational purposes only and does not constitute legal advice. It is recommended that specific professional advice is sought before acting on any of the information given. © Shoosmiths LLP 2024.

 

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