Understanding commercial leases and personal guarantees

Given the complexity of many commercial leases, it is vital that you understand your rights when it comes to signing a personal guarantee for a lease. The ramifications of failing to meet lease repayments are serious, but knowing the consequences to you personally if your business starts to struggle financially, could help to protect your home and other assets.

Business landlords generally request a personal guarantee from directors because of the extended nature of a commercial lease. Their wish to protect themselves from a tenant’s insolvency is understandable, particularly when repayments are made over a period of years rather than months.

Can you end a lease early?

There are various reasons why you might want to end your lease early - perhaps you need to move to larger premises, or negotiate better terms on the existing lease?

Which options do I have to end my lease?

• Break clause
  A break clause needs to be agreed prior to signing, and is part of the legal contract. It means that you can terminate the lease at a stated time, for example at the end of year three in a five-year contract. You will need to give written notice to your landlord of the intention to end the lease early, but if terms have been broken or you have missed a payment, the landlord may have the right to refuse you an early exit.
• Surrender
  You may be able to negotiate your own exit terms by offering the landlord a deal. There is no guarantee that it will be accepted, however, and it might be a costly process.
• Assign the lease
  This involves finding a new tenant to take over your lease. The landlord will want to impose restrictions and make sure of their suitability. You retain some liabilities to your landlord, and may need to guarantee the new tenant’s rental payments.
• Sub-let
  If terms allow, sub-letting the property to another business might be an option. Your company will still be liable to the landlord, but the situation could be made financially viable with the payments coming in from the new tenant.

You will need to check the terms of your lease to see if any or all of the above are possible options. If not, it is likely that you are locked in to your contract for the full term, and if you have also signed a personal guarantee, this makes the situation more complex.

Understanding Commercial Rent Reviews

Commercial leases include the provision for the rental amount to change, sometimes in line with current market values - this is done via a rent review clause. The upcoming review dates are specified so tenants know when their rental payments may be subject to change. In order to protect landlords, rent review clauses typically only allow for rent increases to be made. Therefore in the instance where the market value of the property is determined to have decreased, the rent charged will remain the same.  

Commercial rent reviews can be based on factors other than market value, however, including a measure of inflation such as the Retail Price Index (RPI), or the company’s turnover. When an open market rent review takes place, negotiations reflect open market values at that time.

What if a personal guarantee is in place?

At the time when you provide a personal guarantee, it is crucial to have the associated lease document checked by a legal expert. Some commercial leases include terms allowing for future variations, without having to consult you for approval as the guarantor.

This has the potential to make you liable for new terms of which you have no knowledge, and with no requirement on the landlord’s part to inform you. If you fall behind with rental payments on your business premises, and the landlord is calling upon the personal guarantee you provided, the ramifications for your personal finances are serious.

You could lose your home or the asset secured on the lease, or be forced into personal bankruptcy alongside company insolvency. A potentially bleak picture emerges, even if you have taken out personal guarantee insurance, as this only covers a proportion of the amount that would become due.

Attempting negotiations

You should seek professional help as soon as possible in these circumstances. A licensed insolvency practitioner can review your own position as well as that of the company, explaining all potential options.

The first course of action will generally be to negotiate with your landlord. On reflection, and with the interjection of an insolvency professional, they may decide that reduced payments are preferable to an empty property in the long-term.

Begbies Traynor provides independent advice and guidance, and is the UK’s leading company rescue and recovery practice. We can identify any issues before you sign a commercial lease, and advise on mitigating your risks if you are required to provide a personal guarantee.