In our first article on the Minimum Energy Efficiency Standard (MEES) regulations, we set out the core elements of MEES, what it means, the requirements, the exemptions and the penalties. In this article we consider the wider issues that MEES may present in the landlord and tenant relationship and the potential disputes that may arise. Both landlords and tenants need to consider its effect throughout the lease, from the terms agreed for the lease, the terms of any licences, the implementation of rent reviews, the operation of any break clause and considerations on lease expiry.
In 2022 around 18% of commercial properties were thought to be an F or G rating. It is estimated that when the standards change in 2027 over 50% of central London commercial stock could be substandard. As such, the issues raised by MEES will continue to be relevant for some time to come.
Rental value is obviously a key issue to both landlords and tenants. MEES and the EPC rating may become relevant in rent reviews in leases, and raises issues such as:
- Will the assumptions made in the rent review clause in the lease mean the property would be treated as sub-standard?
- Would the hypothetical new letting mean that a property without an EPC needs to be treated in the rent review as needing an EPC, with the consequence it may be sub-standard?
- What is the impact of the tenant's fit out works? If these works are not taken into account on the rent review, does this mean the property is considered substandard?
- What is the impact on rental value if the property is considered to be substandard?
- How will EPC ratings impact on the consideration of comparable properties?
Some leases have specifically addressed the cost of energy improvement works to the property or building and how that cost is to be borne. However, if a lease does not address this specifically then there may be an issue as to whether a landlord will be able to recover all or part of these costs. Part of that exercise will be considering whether those works are to the demised property or the common parts.
There may also be disputes over access to the property in order that a landlord can undertake energy improvement works. Whilst MEES does provide an exemption if the tenant refuses access, a landlord still needs to use reasonable efforts to get access and a landlord may want to undertake the works.
The impact of tenant's works
Landlords need to consider whether the tenant's works improve the EPC rating. If the works could in fact reduce the energy performance of a property, the landlord needs to make sure that the tenant will reinstate those works at lease expiry.
If those works are actually an energy improvement, then removal of these works may reduce the EPC rating for a property, putting it at risk of being substandard and in breach of MEES. As such landlords should consider carefully blanket reinstatement obligation and automatic reinstatement requests at or prior to lease expiry. It may be preferable for the tenant's works to remain. A landlord may prefer its tenant to leave in situ energy saving measures and it may be sensible to engage with the tenant early to ensure the tenant does not remove its works.
Similar issues arise on a tenant's break option. In order to preserve the energy improvements a landlord may want to waive compliance with certain break conditions in order to ensure a cautious tenant does not remove the works. Contrary to established practice on breaks, for the purpose of MEES a landlord may now want to engage with its tenant in advance of the break date.
In relation to dilapidations disputes, different issues are raised. If a landlord's dilapidations claim includes reinstatement of tenant works but those works improved the EPC rating of the property to pass the MEES test then a tenant could argue that the landlord has not suffered any diminution in value. This is because the landlord is now unable to let the property out in any event. There may also be supersession arguments raised. That is, that the works to the property that need to take place for the property to pass the MEES test mean that the work to satisfy the dilapidations claim would be superseded.
It is also worth bearing in mind that even without a change to the property, changes to building regulations or the EPC assessment can affect the EPC rating. For example, the carbon factor used to calculate the EPC rating changed in June 2022 and following the change any building heated by gas may now receive a worse EPC rating. It may be that we start to see the strategic use of new EPCs by tenants as a tool in disputes for the reasons set out above.
MEES is here to stay. The standards applied will increase over the coming years. As such this issue should be on every landlord's radar, as it has a potential impact on issues throughout the life of a lease. Our takeaway piece of advice is to consider MEES early and take the appropriate specialist advice.