The Landlord and Tenant Act 1954 is a key piece of legislation that governs the rights of business tenants to occupy commercial premises. One of its most significant provisions is that it grants security of tenure to tenants, meaning they have the right to renew their lease when it expires. However, landlords and tenants can agree to “contract out” of these provisions, meaning that the tenant forfeits the right to automatic lease renewal.

Understanding the 1954 Act: Security of Tenure

The Landlord and Tenant Act 1954 (‘the 1954 Act’), Part II, applies to most commercial leases and provides tenants with statutory protection, including:

1 The Right to Renew:

At the end of the lease term, the tenant has the right to request a new lease on the same terms (subject to modernisation) at the then open market rent.

2 Protection Against Eviction:

‍The landlord can only refuse to renew the lease on limited, specific grounds, such as intending to redevelop the property or using it for their own business.

For tenants, this security is valuable as it ensures continuity of business operations. For landlords, however, the Act can be restrictive, limiting their ability to regain control of their property or renegotiate lease terms.

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What Does “Contracting Out” Mean?

Contracting out of the 1954 Act means that both parties agree that the statutory rights to renew the lease will not apply. This removes the tenant’s security of tenure and leaves them without the legal right to request a new lease at the end of their current one.

Landlords may prefer this option if they want greater flexibility over the future use of the premises, or if they intend to redevelop, sell, or raise the rent substantially in the future. Tenants, on the other hand, may accept contracting out if they are comfortable with the risks or if the landlord offers incentives such as a reduced rent or better initial terms.

The Contracting-Out Procedure

To contract out of the 1954 Act, strict procedures must be followed. The law requires that:

1 Landlord’s Warning Notice:

The landlord must serve a notice on the tenant warning them that the lease will not include the security of tenure provisions of the 1954 Act. This notice, often referred to as the “warning notice,” must be served before the lease is entered into.

2 Tenant’s Declaration:

The tenant must respond by signing a declaration that acknowledges they understand the effect of the notice and are agreeing to give up their rights. There are two types of declarations:

Simple Declaration: This is used when there is at least 14 days between the tenant receiving the warning notice and the lease being entered into. It confirms that the tenant has received the notice and agrees to the lease terms.

Statutory Declaration: If there are fewer than 14 days between the warning notice and the signing of the lease, the tenant must make a statutory declaration, which must be witnessed by an independent solicitor.

3 Lease Incorporation:

The lease must include a clause stating that the parties have agreed to contract out of the 1954 Act. This ensures that the terms of the lease reflect the intention to remove the tenant’s right to renewal.

Failure to follow this process correctly can invalidate the contracting-out agreement, meaning the tenant retains their statutory rights.

Why Would Parties Contract Out?

There are several reasons why landlords and tenants might agree to contract out of the 1954 Act:

1 Landlord Flexibility:

Landlords often prefer the ability to regain possession of the premises when the lease expires, particularly if they have plans for redevelopment, want to change tenants, or aim to raise rents significantly in line with market rates.

2 Temporary or Short-Term Leases:

For short-term or temporary tenancies, where both parties are only interested in a limited term, security of tenure is often unnecessary. Contracting out makes sense in these situations as it avoids complications at the end of the lease.

3 Commercial Bargaining Power:

In competitive markets, landlords may insist on contracting out as a condition for agreeing to the lease. Tenants, especially those in desirable locations or with strong negotiating power, may have to accept this trade-off to secure the premises.

 Risk Mitigation: Some tenants may be willing to accept a contracted-out lease in exchange for more favourable initial terms, such as lower rents or rent-free periods.

Implications of Contracting out

1 For Tenants: The most significant risk for tenants is that they will have no automatic right to remain in the premises when the lease expires. They will need to either negotiate a new lease with the landlord in advance of the end of the term of the lease or vacate the property. Tenants should also be aware that landlords may have more leverage to impose less favourable terms when negotiating a new lease in this situation.

2 For Landlords: While contracting out gives landlords greater flexibility, landlords should ensure that the contracting-out process is followed correctly, or they risk inadvertently granting the tenant the protection of the 1954 Act.

Contracting out of the 1954 Act is a useful option in many commercial lease negotiations. It allows landlords to retain flexibility over their property and can sometimes benefit tenants who are seeking short-term arrangements or favourable initial terms. However, it also removes the statutory protections that most business tenants would otherwise enjoy.

As such, both parties should fully understand the implications of contracting out and ensure that the correct legal procedures are followed to avoid disputes later on. For tenants, seeking legal advice before agreeing to contract out is particularly important, as the decision could have long-term consequences for the business.

Disclaimer: this article is not to be relied upon as legal advice. The circumstances of each case differ and legal advice specific to the individual case should always be sought.

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