The latest development in the property market is the inevitable arrival of ‘green leases’ between landlords and tenants. By Alison Murrin

Ever-increasing EU legislation requiring member states to cut greenhouse gas emissions and the fact that buildings are viewed as a prime target for achieving these reductions means both building owners and occupiers are becoming more aware of the energy efficiency of their premises.

The introduction of Energy Performance Certificates (EPCs) for all commercial buildings over 500 square meters by the end of 2008 will bring this issue firmly to the fore.

EPCs, which measure the estimated energy consumption of a building, will assist both investors and occupiers in determining a building’s green credentials at the point of purchase.

However, the hot topic of debate is how the parties will address sustainability issues during the life of the building’s occupancy. ‘Green leases’ have been suggested as a way of setting the expectations of both the landlord and the tenant with regard to achieving energy savings and waste reduction and to monitor resource consumption.

The Centre for Research in the Built Environment published ‘Incorporating Environmental Best Practice into Commercial Tenant Lease Agreements – Good Practice Guide Part 1 and 2’ in July 2007, providing advice and guidance together with sample lease clauses for those considering signing up to a green lease.

Financial costs
In the current market, a prospective tenant will no doubt view a number of properties of which only a small number will incorporate specific design features that minimise the building’s environmental impact. The higher development costs of such a building means the landlord will either need to absorb these costs or, more likely, pass such costs on to the tenants through higher rents.

Regardless of the green credentials of a building, most potential tenants would think twice about entering into a lease of a green building if the outgoings are going to be higher than that of a standard lease on a conventional commercial property. So the success of a green lease is dependent on the cooperation of both parties to achieve maximum energy savings without imposing excessive and costly obligations on each party.

Before considering offering a green lease, a landlord needs to establish an environmental policy for the management of the building. This will inevitably involve the engagement of specialist consultants to complete an environmental audit to determine what energy efficiency measures can be put in place and to provide an analysis of any additional implementation costs. Realistic energy efficiency targets can then be set.

The good practice guide states that this policy, together with other relevant information relating to the efficiency of the building, should be made available to prospective tenants early in the negotiation process so they can make an informed decision concerning the nature of the commitment they will be taking on. It may be that at this stage the tenant will require its own consultant to review the environmental policy to ascertain whether the targets are achievable and whether there are any cost implications. This will require time and money and may put off some tenants off.

Where potential tenants are proposing to fit-out premises, the landlord may require control over elements of the design and the materials used so that energy efficiency is not compromised. This may mean that tenants have to comply with a specific fit-out policy and will again need to factor in any additional costs of complying with such a policy.

The green lease builds on the conventional lease by imposing commitments on the landlord and the tenant to reduce energy consumption, water usage and waste production, and to increase recycling to meet specific targets.

There would need to be a mechanism in the lease to appoint an independent, suitably qualified expert to carry out regular audits of the building and assess whether the occupiers are complying with the environmental policy and to determine whether the targets have been met. This is likely to be a fertile area for dispute and the lease needs to provide a mechanism to resolve any disputes between the landlord and the tenants of the building.

Of course, for there to be an incentive to meet specific energy efficiency targets it may be considered appropriate to include financial penalties in the lease for the party that fails to meet those targets.

Good practice suggestions
The good practice guide provides detailed guidance and drafting suggestions for incorporating environmental provisions into a green lease. Some indications of what you might expect to see are:

•A requirement that the tenant uses the cleaning and waste removal services provided by the landlord.

•The ability for the landlord to carry out repairs and modifications to the building to improve energy efficiency.

•A requirement that if the tenant proposes a change of use or an alteration to its premises, including the installation of partitions and lighting, the landlord can refuse consent if this adversely affects the energy efficiency of the building.

•On assignment or underletting, the assignee/sub-tenant would give a covenant to the landlord to comply with the landlord’s environmental policy for the building.

•A commitment to a regular exchange of information between the landlord and the tenants of the building to ensure effective management of the environmental policy.

•An ability for the landlord to adjust service charge contributions between the tenants to reflect the success or otherwise of individual tenants in meeting the specified energy efficiency targets.

•An obligation that the landlord ensures all building systems operate to maximum efficiency levels as certified by an appropriate professional.

•An obligation that the landlord monitors energy consumption and lowers levels (for example air conditioning) where appropriate to meet efficiency targets.

•Cooperation by the landlord with the tenants to implement environmentally friendly travel-to-work policies, for example, providing bicycle racks.

It should be remembered that these clauses are not restricted to leases of newly constructed buildings, but can be applied to buildings that have been refurbished to incorporate energy-saving enhancements. In this case, as the lease is already in place and any changes would have to be made by way of a deed of variation, only those provisions that the parties can agree on could be included.

Alison Murrin is a real estate associate at Ashurst