E is for Energy (you’ll need it)

The Department of Energy and Climate Change recently issued responses to the consultation dealing with minimum energy efficiency standards in non-domestic properties. As part of their response, the government is implementing regulations that will prohibit landlords letting commercial properties with energy performance certificate ratings of F or G. The draft regulations have now been approved by both Houses of Parliament. As a result, it is crucial that landlords consider the incoming changes now, rather than waiting until they take effect in 2018.

Which properties and from when?

The regulations will capture all commercial property in England and Wales with commercial leases over six months and under 99 years.

The regulations do not apply to certain properties which are exempt under the Energy Performance Certificate (EPC) regulations, such as buildings which are due to be demolished and buildings which are officially protected.

From 1 April 2018, the regulations will apply on the grant of a lease to a new tenant and a lease to an existing tenant, capturing renewals and extensions where the property has an EPC.
As a back-stop, from 1 April 2023, the regulations will apply to all privately rented property, including where a property is already occupied by a tenant. It appears that leases of non-compliant properties which have already been granted and which extend beyond 1 April 2023 will automatically be in breach.

What must landlords do?

Only permissible, appropriate and cost-effective improvements are required under the regulations. As a result, landlords may be eligible for an exemption if they can evidence that one of the factors applies.

• The measures are not cost effective, either within a seven year payback or under the Green Deal’s golden rule, which, in summary, states that payments, including any interest charges, for improvements must be the same or less than the expected energy bill savings in the first year.
• The landlord is not able to obtain the consents necessary for the required improvements. Landlords must demonstrate that they have used “reasonable efforts” in seeking the relevant consent.
• A relevant, suitably qualified expert or independent installer provides written advice that the measures will cause a net decrease of 5% or more to the value of the property or that the wall insulation required will damage the fabric or structure of the property.

The landlord must list the exemption on a centralised register and, upon the expiry of an exemption, will either need to achieve the minimum standard or obtain another exemption.

The penalties vary, depending upon the degree and length of the non-compliance, but range from the issue of a compliance notice and/or a penalty notice, possible publication of the non-compliance and even monetary fines, the highest maximum penalty being £150,000.

What should landlords do now?

In practical terms, landlords should review the EPCs for their commercial properties. For any properties falling within the F or G bandings, landlords should determine the cause of the low rating and consider acting upon it.

If the property is vacant, landlords would be advised to start any improvement works in good time for the 1 April 2018 deadline.

For properties which are currently let, landlords should review the terms of the leases to see which party is responsible for the improvements. It is advisable that the parties agree responsibility in order avoid argument and confusion later.

Landlords should consider including provisions in any new lease to cover areas on which the regulations may have an impact. Some examples include:

• Which party is responsible for carrying out the energy improvements works
• Widening landlords’ rights of entry for such works without the tenant’s consent
• Having stricter controls over tenant’s works, without also being deemed to be acting unreasonably
• Amending service charge provisions to cover the cost of energy improvements;
• Adding as a disregard, in an open market rent review, any adverse effect on rent attributable to an EPC rating.

As a result of the impending changes, commercial landlords may see a rise in tenants’ requests to limit their repair and statutory obligations in leases by way of schedules of condition, and may also see resistance against energy performance improvement costs being passed to them via the service charge.

As these regulations come alongside the Carbon Reduction Commitment and Energy Savings Opportunity Scheme, moves towards “greener” leases and the minimum energy efficiency rating of E do not look to be going away. Landlords should, therefore, be evaluating their properties as an immediate priority.

Danica Cooper is an associate in the Real Estate team at Michelmores