The end of an era? Government moves to end upward-only rent reviews

Currently, most commercial leases include an upwards-only clause. The standard position provides that the rent payable from the review date (usually every 3 or 5 years) is the higher of:

• The rent payable under the lease immediately before the review date; or
• The open market rent or in line with the retail prices index.

The current mechanism ensures that rent can only either rise or stay the same at rent review but never fall. If the market or indexed rent falls or remains unchanged, the passing rent stays the same. 

The key elements of the proposed ban are as follows:

• Rent is allowed to adjust both upward and downward in line with market conditions including the tenant’s turnover rent (if the lease makes provisions for it), therefore, the rent may decrease at rent review
• Prohibits mechanisms employed to manage yield risk; for instance, the use of caps and collars which is widely used to provide certainty for both landlords and tenants as it determines that at rent review, the rent will increase by a maximum of 4% per annum and will reduce by no more than 2% per annum
• Grants tenants the right to initiate rent reviews by serving written notice to do so, thereby removing any contractual provisions landlords may have included in the lease which would give them control over the timing of reviews. 

The Government has expressed that its rationale is to ease pressure on struggling high streets and small businesses, and to encourage a more responsive, locally driven property market. However, the impact of this Bill, if passed, will be wide reaching; affecting all commercial leases and their respective industries (whether large or small).

The legislation will not apply retrospectively and therefore will not affect leases already granted before it comes into force. Similarly, leases granted under agreements for lease entered into prior to the legislation’s commencement, even if the leases themselves are executed afterward, would also be excluded. However, the ban would apply to renewals including statutory renewals.

Any agreement that tries to make the tenant pay extra because of the legislation will be invalid. This may apply to fixed or stepped rents which landlords may attempt to implement at the start of the lease.
Parties will not be able to contract-out of these restrictions and the legislation prevents landlords from requiring tenants to enter into new leases at an uncertain or unspecified rent.

Tenants: are likely to welcome this reform which would strengthen their negotiating position and provide greater protection during market downturns, particularly in softer rental markets. Rent reviews would more closely reflect trading conditions, assisting businesses in managing overheads during challenging periods. However, the downside to this is that landlords may seek to offset the potential for future rent reductions by increasing initial rents or reducing incentives such as rent-free periods.

Landlords and investors: the picture is more complex. Removing upwards-only clauses could reduce income predictability, complicate valuations, and impact lending security. There is concern that it may deter new investment or development, especially where future rent projections underpin financial viability.

Lenders: lenders typically assess commercial property finance based on expected income streams. If rental income becomes less predictable, lenders may respond by seeking higher interest rates, additional security, or stronger guarantees.

Developers: banning upwards rent reviews may result in unpredictable income streams which can lead to lower valuations for commercial properties, directly impacting developers' asset values.  Lenders may become more cautious thereby impacting the cost and availability of funding for new developments.

Research shows the following impact across various sectors:

• Offices: could become more affordable for tenants, but may deter refurbishment investment.
• Retail: the biggest shift expected here, as rents realign with real trading conditions. However most retail leases are now short term without any rent review included and therefore the impact may not be as beneficial as the government expects.
• Industrial: minimal disruption anticipated, given the sector’s strong demand and already short lease terms.

If the Bill is successful and upwards-only rent reviews are prohibited, the following outcomes are likely to emerge:

• Rents being set at inflated rates at the outset: landlords may set higher rents at the outset of transactions to protect against potential future market declines, reducing the intended benefit of the reform for tenants. Note market research proposes an increase in fixed and stepped rent increases but if this is done solely because of the introduction of the legislation, it is likely prohibited under the Bill.
• Shorter leases and more break clauses: there could be a shift towards granting leases with shorter terms and more break options to allow both parties flexibility. However, in many retail sectors, short-term leases and turnover-based rents are already common, so the reforms might not significantly change current practice in these locations.
• Increased reliance on index-linked rents and more complex review mechanisms: landlords may prefer linking rents to inflation measures (like the Retail or Consumer Prices Index), as such rents are less likely to fall compared to those based purely on market rates. Alternatively, to manage the uncertainty of this Bill, lease documents may adopt hybrid review formulas; combining open market comparable, index linked uplifts and fixed steps. Such complexity could increase professional, surveyor fees and administrative burdens.
• Reduction in lease incentives: currently landlords may offer long rent-free periods or generous fit out contributions at the outset of a lease, banking on higher income levels over the life term. Removing upwards-only rent review introduces rental uncertainty which will surely factor into future negotiations by agent’s and landlords.

The Bill is in the early stages of the legislative process, with the second reading in Parliament having only just taken place this September. Details on its implementation and transitional measures are still to be confirmed and it is not yet clear whether all of the current proposals will make it into the final legislation. If enacted, the legislation change will reshape how rent is negotiated, reviewed, and valued. 

We recommend that both landlords and tenants review upcoming lease renewals and funding structures to stay ahead of the curve. Seeking legal advice at the commercial negotiation stage of a transaction (before heads of terms are finalised) will also be beneficial.

If you have any queries on how the proposed ban could impact your leases, financing or upcoming transactions, please get in touch with us to receive more tailored advice on your position and mitigate any potential risks.