14 August 2017

Q&A – Assignment or Underletting?

Q. We took a lease in 2013 of two floors of an office building in London. Our company has downsized, and we no longer require such a large space. There are six years remaining on our lease term, and there is no break clause in the lease. We have found another company who might be interested in taking office space. Is there any way in which this new company can take the lease off our hands?

A. Yes, subject to the provisions of your lease. The alienation provisions in your lease will set out whether or not you can assign or underlet the premises, and any conditions attached to such rights.

An assignment transfers the benefit of the lease from you to the incoming tenant (the assignee). The assignee will covenant to observe and perform the tenant covenants in the lease. As your lease was granted post 1995, it is a “new” lease meaning that once you have completed the assignment you will be automatically released from any liability under the lease. However, tenants are often required to provide an authorised guarantee agreement (AGA) to the landlord by which you guarantee the performance by the assignee of the tenant covenants until the assignee is itself released (either by the lease term coming to an end, or on a further assignment).

An underletting creates a new lease entered into between yourself and the new company (the undertenant). If you underlet, you will remain liable to observe and perform all of the tenant covenants in the lease until the end of the lease term. Leases commonly provide that any underlease must be granted with no fine, premium or rent free period, the rent must be no less than the open market rent, and the provisions of the underlease must be no less onerous than those in the lease (usually underleases are on similar terms to the lease, save for the term which must expire before the end of your term).

In deciding whether assignment or underletting is the better option for you, you should consider the following:

  • What are your company’s plans for the next six years? Is there a possibility that you may expand and want the space back? If so, an underletting may be preferable as you can negotiate a break clause in the underlease allowing you to take back occupation of the premises at a specified time. If you assign the lease, then you have transferred your interest entirely. You could always take an assignment back from the assignee, but you would potentially need to pay SDLT.
  • Are you interested in keeping a part of the premises (e.g. one floor)? If so, you could underlet just one floor, and remain in occupation of the other, provided this is permitted by your lease. Leases generally prohibit assignment of part.
  • Is the new company of good covenant strength? Your lease is likely to contain a right for your landlord to withhold consent to assignment if the proposed assignee is not of sufficient standing to enable it to comply with the tenant obligations in the lease. Leases often include further conditions that (if reasonably required by the landlord) the assignee provides a guarantor to guarantee the assignee’s performance of the tenant covenants, and/or a rent deposit (usually not more than six months’ rent). On an underletting, your landlord may be less concerned about covenant strength because you will still be liable for all tenant covenants under the lease. However, you need to consider whether the undertenant is likely to be able to meet its obligations under the lease, as you will still be directly liable to your landlord.

 

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