Green leases - Why now?

Green leases have been a sustainability hot topic for some time, but have elicited increased focus in light of imminent changes to the UK's Minimum Energy Efficiency Standards (MEES) regime , compliance with which is a responsibility placed largely on landlords. Whereas landlords are currently prohibited from granting a new or renewal lease, or a lease extension, in respect of a commercial property with an EPC rating lower than 'E', this prohibition will attach to existing commercial leases from 1 April 2023, even where there is no change in tenancy arrangements. You can read our recent article on the upcoming MEES changes here.

Landlords will be legally required (unless an exemption applies) to bring their properties up to the new minimum EPC standard to avoid a statutory breach. While the financial penalties of a breach can be significant (the greater of GBP 5,000 or 10% of the property's rateable value, up to a maximum of GBP 50,000), the reputational damage to landlords is also a powerful motivator. Furthermore, the government's 2020 Energy White Paper, Powering our net zero future, revealed its intention that all rented commercial buildings should achieve an EPC rating of C by 2027, and an EPC B rating by 2030. The change is estimated to affect around 85% of the UK's commercial rented stock, equating to around one million properties. This intention has not yet been formalised, but legislation is expected in due course.

Aside from that immediate impetus arising from uplifted MEES requirements, owners and occupiers are increasingly committing to their own targets to contribute towards the UK's goal of achieving net zero emissions by 2050. They are looking to address emissions during the whole lifecycle of a building including its construction, use and ultimate disposal.

Campaigns such as the Better Building Partnership's Climate Commitment and the British Property Federation's Net Zero Pledge encourage active engagement in measures to achieve the UK's net zero goal. Real estate stakeholders have an opportunity to balance business targets, reputational value and national environmental strategy. Landowners and their tenants with considered environmental agendas can proactively advance the UK's zero target by recognising the part that each can play in making sustainability-based decisions.

How green is green?

A "green" lease is an excellent example of long-term contractual commitments that can be made by landlords and tenants to reduce the negative impacts of real estate. By including appropriate green lease terms in standard leasing documents, a landlord may be able to address investor and regulatory concerns and tenant demand, reduce insurance premiums, increase the value of its real assets and improve the workplace experience.

Typical provisions which "greenify" a lease can be categorised according to the burden they place on the respective parties. Provisions range from light to dark green, with light green the least onerous and suggestive only of in principle cooperation, with dark green provisions dictating more specific, measurable behaviour and typically requiring more positive action or restricting certain activities.

Sustainability-focused lease drafting is undoubtedly on the increase, with advisors now preparing, on request, a range of "green" clauses based upon the particular concerns of, or environmental focus of, their clients. However, whilst it may feel new, green drafting has been around for years. The Better Building Partnership introduced its Green Lease Toolkit in 2013, focusing on light green commitments based on stakeholder discussion and cooperation. An updated Toolkit is expected from them imminently. In recent years, the Chancery Lane Project (a legal collaboration) has published darker green clauses for bespoke inclusion in real estate transactions. Most widely adopted, at present, are the light green sustainability provisions included in the Model Commercial Lease, which prioritise discussion and data sharing.

Common areas for green lease negotiation include the following:

• Cooperation clauses: a light green provision which typically commits leasing parties to hold periodic (often no more than annual) discussions on sustainability goals. Usually no more than a statement of the parties' shared commitment towards improving the premises' environmental performance, such provisions do not typically include express obligations and can generally be included in a lease without significant objection from either party. At the very least, they are a starting point to encourage constructive conversations around sustainability. However, with climate action urgently required, some landowners are now looking to commit to more robust provisions to effect real improvements, such as a darker green obligation to implement a comprehensive sustainability plan for the premises (with associated rights of enforcement).
• Data sharing: light green provisions enabling landlords to monitor and report on environmental performance of the whole premises, and to share this with other occupiers, are increasingly common. Practical benefits depend on the quality of data collected (increasingly feasible through developing proptech solutions), and the obligations on leasing parties to actively respond to data findings. The installation of meters to collect more substantial data is an obvious step, though there will be associated costs to apportion. Once patterns in the data are established, both landlords and tenants can make more impactful changes to improve environmental performance.
• Alterations and improvements: many leases now prohibit works which may reduce the EPC rating of the building, but a landlord may be required to act reasonably and not delay consent if the proposed alterations will improve environmental performance. Landlords should have an eye on potential future MEES uplifts, and include additional rights of entry to make environmental upgrades, but both landlords and tenants have a vested interest in allowing such renovations and improvements. A bigger area for discussion is the allocation of responsibility for the funding of such upgrades and their impact on rent review.
• Costs: Enhanced statutory obligations and stakeholder expectations in relation to sustainable premises will require significant investment from landowners. Green leases are one tool to document consensus between landowners and occupiers in this regard. Costs incurred by the landlord in improving energy efficiency may be significant, and the parties should agree who is to fund the various environmental upgrades contemplated during the term of the lease.
• Repair and decoration clauses adopting circular economy principles may suggest or demand the use of sustainable materials, thereby reducing waste and minimising new product purchasing by prioritising the use of reclaimed, re-used or recycled goods or materials where possible. A commitment to keep plant and machinery in efficient, rather than just good, working order is more than merely semantics, and acknowledges the parties' sustainability focus.
• Utilities: the landlord may undertake to provide, or the tenant may insist on, energy which is derived from sustainable or renewable sources.
• Building operations: it may be in the best interest of a tenant to agree a clause relating to sustainable operational measures. For example, provision for the use of HVAC and lighting schedules to reduce energy costs when the property is not being used, or of environmentally-friendly cleaning products in the building, or relating to the common areas of the building. The landlord may wish to have regular environmental audits of the building, with the reasonable cost shared with tenants through the service charge.

Introducing green lease provisions does not have to be considered only as a "lease entry" opportunity. Landlords and tenants can agree to update existing leases to add green provisions by way of a memorandum of understanding, proposed by either party. Alternatively, leasing parties can create a property handbook setting out internal, sustainability-focused environmental practices. 

Environmental call to action

Whilst leasing parties have historically been reluctant to pay for works to enhance energy performance, those days are coming to an end. Raised MEES requirements, enhanced environmental awareness, ESG credibility concerns, and the valuation impact (both positive and negative) of a building's energy efficiency are increasingly triggering higher expectations in leasing transactions. Properties with enhanced green credentials command higher rents, have higher occupancy levels, higher retention levels and overall present greater value and returns for owners and occupiers.

Realistically, achievement of the government's 2050 net zero target requires urgent and universal buy-in. Real estate is a significant contributor to the UK's carbon emissions, and owners, occupiers, investors and developers have an opportunity to address their environmental impact by actively promoting sustainable practices. Green leases provide a significant opportunity for landlords and tenants to make positive environmental changes in the way that buildings are used and operated.

Please contact our real estate team for further advice on how you can implement green provisions within your leasing arrangements.