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Green lease clauses: helping to future-proof landlord’s assets
Images courtesy of The Howard de Walden Estate
Commercial property owners of all kinds, from SME landlords and developers to large real estate investment trusts (REITs), are committing to net-zero carbon emissions goals. To achieve them, they are implementing a raft of different measures to ensure existing buildings and new buildings are more carbon efficient in operation.
One approach many landlords are taking is to insert green lease clauses into their commercial leases. “Green lease clauses are clauses in a standard commercial lease that get landlords and tenants to commit to certain environmental objectives,” says Louise Ward, a Partner at Charles Russell Speechlys, who acts on the acquisition, disposal, development and asset management of commercial property.
“The green lease clause might cover things like the landlord's rights to carry out works throughout the term of the lease to improve the environmental performance of the building. It might restrict a tenant’s ability to carry out alterations that would have an adverse impact on the material, or the environmental performance, or EPC rating of the building,” explains Louise.
“We have managed to introduce this in about 50 of our existing and new leases, which represents about a third of our retail and leisure occupiers. Charles Russell Speechlys' market knowledge and reasonable approach in introducing these green clauses into our leases has been invaluable.”
Rob Kirk, Head of Retail & Leisure at Howard de Walden
Green lease clauses exist on a spectrum; ‘light green’ clauses impose less responsibility on the parties and tend to be a statement of intention, for example, documenting shared objectives to collaborate and share data, but without any specific targets or penalties for non-compliance, whereas ‘dark green’ clauses tend to be much more specific and measurable, perhaps setting specific targets and could allow the landlord to recover costs from the tenant for environmental improvement works.
At Charles Russell Speechlys we are advising some of the UK’s leading landlords on how to add these clauses in new leases or lease re-gears. With buildings accounting for almost 40% of global carbon emissions according to the World Green Building Council, it is clear that landlords need the ability to take steps to improve the environmental performance of their assets. Green lease clauses are a critical tool for landlords working towards net zero and looking to future-proof their portfolios because the emissions associated with how a tenant operates a leased building form part of the landlord’s carbon footprint or ‘Scope 3’ emissions, even though they are outside the landlord’s direct control.
As well as helping landlords achieve their own carbon and ESG objectives, there are a number of other commercial drivers behind the rise of green lease clauses. Tenants are increasingly looking for green buildings which offer lower operating costs and deliver on their own sustainability goals; existing stock which is not sustainable or energy efficient simply won’t cut it. There has been speculation for years now about ‘green premiums’ and ‘brown discounts’ and research now suggests that a two-tier system is inevitable with buildings that are not sustainable being harder to let and attracting lower sales prices. Knight Frank LLP has reported that a BREEAM ‘Excellent’ rating results in a 12.3% rental premium.
Buildings accounting for almost 40% of global carbon emissions according to the World Green Building Council
Accelerated use of green clauses
Although green lease clauses existed pre-pandemic, Cara Imbrailo, another Partner in the commercial real estate team at Charles Russell Speechlys says their prevalence has accelerated due to the high number of lease re-gears that have occurred over the last couple of years.
Cara recently helped London-based landlord The Howard de Walden Estate “green up” a number of existing leases on retail properties within its estate and Louise and other members of the real estate team have also been advising landlord developer clients on green lease clauses on new builds where they are aiming for and seeking to maintain environmental certification schemes like BREEAM or WELL.
With the minimum EPC rating for commercial buildings set to increase to B from 2030, Louise and Cara believe this will provide a further catalyst for change and see more landlords seek to include green clauses in commercial leasing contracts over the coming years.
“The minimum EPC rating will be going up during the terms of lots of leases, so by including green clauses in leases we can try and safeguard what steps our clients might want to take in the future to green up their buildings and build in some protections for the landlord so far as is possible during a lease term. In doing so, they can carry out works to the building as a whole, which means that they're not left with an out of date, brown building at the end of the lease term,” says Cara.
The Howard de Walden Estate: Supporting a net-zero pathway
When Covid-19 struck, The Howard de Walden Estate took the opportunity to review its retail and leisure standard lease with Charles Russell Speechlys, using the Model Commercial Lease as a precedent.
"We felt it was important to ensure that we had an up-to-date market lease that allowed us to engage fully with our businesses, and importantly allowed us to share more data now and in the future,” explains Rob Kirk, Head of Retail & Leisure at Howard de Walden. “Charles Russell Speechlys provided the advice to enable us to produce a more balanced approach to this and introduce the ability to work with businesses and share important occupational data which will enable us to have a clearer picture of our carbon footprint and feed into our net zero pathway by 2040."
Expert spotlight: Knight Frank on the impact of UK energy efficiency standards
While the introduction of the MEES (Minimum Energy Efficiency Standard) regulations in April 2018 for rented buildings to have a minimum EPC rating of E was largely seen by the industry as a simple matter of compliance, the updated MEES requirements of an EPC B by 2030 with an interim target of EPC C by 2027 has been seen as welcome challenge to bring us towards net zero. Further changes to the MEES requirements in April 2023 will mean that this minimum E rating now applies to existing leases as well.
With increasing awareness of energy usage in buildings, the climate crises and recent energy price increases, there has been a desire from both tenants and landlords to improve their EPC ratings with many skipping the interim target of a C and aiming for B ratings as a minimum.
While this review of EPC ratings and improvement works are being done as ratings expire and tenancies are renewed, large landlords are also making portfolio reviews to plan their schedule of necessary improvements for the long term. This has also been mirrored in the domestic sector where research has found that roughly one in five landlords have undertaken refurbishment work in the last 12 months to improve the energy efficiency of their properties.
Joe Warren, Associate, Knight Frank
Jonathan Hale, Head of ESG Consulting UK, Knight Frank
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