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Uninsured risks in commercial leases

The majority of commercial leases oblige the landlord to insure the building.  This is due to the landlord having a capital interest to protect in the building and they require control over its repair by way of insurance and service charge rent.  The lease will define the ‘insured risks’ which the landlord covenants to insure against.  These will include the normal perils such as fire, explosion, storm etc.  In a standard fully repairing and insuring lease, the tenant covenants to keep the property in good repair and condition (sometimes limited by reference to a schedule of condition), but this will usually exclude any damage caused by an insured risk.  Therefore, if the property is damaged by an insured risk, the tenant does not need to repair the damage, the landlord must reinstate and the rent under the lease is suspended until the property has been reinstated.

However, many leases are silent on what happens in the event that the property is damaged by a risk which the landlord is not insured for, this is referred to as uninsured risks.  The most likely examples of uninsured damage are terrorism, subsidence and heave.  If a property is damaged by an uninsured risk, the tenant will be responsible for remedying the damage caused under its repairing obligation, unless the repairing obligation in the lease is limited.  In addition, the tenant will have to continue paying the rent, despite the building being damaged and incapable of occupation.

Many solicitors acting for tenants are now demanding a provision to protect the tenant in the event of damage by an uninsured risk.  This is against the backdrop of The Code for Leasing Business Premises which states that if properties are damaged by uninsured risks so as to prevent occupation, tenants should be allowed to terminate their leases unless the landlord agrees to rebuild at its own cost.

If a landlord accepts an insured risks provision then they must be careful not to covenant to reinstate unless it elects to do so.  The risk for the landlord is that it will not receive any insurance monies for the damage and will need to fund the works themselves.  The clause should be drafted so that if the property is damaged by an uninsured risk the landlord has the option to elect to reinstate the property. The clause should also set a long stop date by which the landlord has to serve its reinstatement notice, so that if no notice has been received by the long-stop date the tenant should be allowed to terminate the lease.  The long stop period is to allow the landlord to evaluate the costs of reinstating, funding the works and obtaining planning and consents to the works.  The landlord will want to be able to do this safe in the knowledge that it will have a paying tenant in occupation as soon as the reinstatement works have completed.  The landlord will, of course, want as long as possible to decide whether or not it wishes to reinstate.  The tenant will want certainty in determining how it will run its business going forward and will want the landlord’s election period to be as short as practicable.

A well-drafted uninsured risks clause (from the landlord’s point of view) would be limited to damage included in the list of insured risks but not covered by the landlord’s insurance policy due to insurance for the risk not being available from insurers at commercial rates.  However, the tenant, on the other hand, will want this widened to include any unforeseeable risks.

To conclude it is now beginning to become standard practice for tenants to require a provision in leases in the event of damage to the property by an uninsured risk.  Landlords need to be on the ball to protect their capital investment by ensuring that they do not lose the tenant if the property is so damaged, but that they will be able to reinstate and have the tenant ready to move in once the works have completed.

For more information on this or any other landlord and tenant matter please contact Eliot Hibbert on 03300 24 24 20.

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