10 April, 2018
From the 1 April 2018 there are going to be major changes to the regime governing Energy Performance Certificates ("EPC's"). The changes are to be brought into effect by The Energy Efficiency (Private Rented Property) (England and Wales) Regulations 2015 ("the MEES Regulations") and will make it unlawful for any Landlord to grant a new lease for a property which has an EPC rating lower than band E (ie. a rating of either "F" or "G").
To which properties will the new rules apply?
The changes will initially apply to new leases of properties entered into from 1 April 2018. Over time, the intention is for the MEES Regulations to also apply to existing leases so that from 1 April 2020 all existing residential leases will need to have an EPC rating of at least "E" and from 1 April 2023 all existing commercial leases will need to have an EPC rating of at least "E".
The MEES Regulations will only apply to properties that are required to have an EPC under the existing regime. Most properties require an EPC when they are sold or leased, although there are some exception (such as properties that have no heating or air conditioning or properties with low energy demand).
The MEES Regulations do not apply to very short or very long commercial leases (ie. leases with a term of less than 6 months or a term of 99 or more years).
Do the new rules apply to lease renewals?
The MEES Regulations state that they apply to both the grant of a new lease and to "letting the property as a result of an extension or renewal of an existing tenancy". However, the MEES Regulations do not specifically define what would constitute an "extension or renewal" of a lease, so it is unclear whether this applies to an express grant of a renewal lease or to the statutory continuation of a lease, such as under the security of tenure provisions of the Landlord and Tenant Act 1954.
Nonetheless, given that the grant of a lease renewal would bring the previous lease to an end, where an express new lease is being granted:
What action is required if a property is in breach of the MEES Regulations?
If the property falls within the scope of the MEES Regulations and is revealed to have an EPC rating of "F" or "G", before the property is let the Landlord must first carry out "relevant energy efficiency improvements" so that the property's energy rating is raised to at least "E". Such improvements:
Are there any exemptions to the MEES Regulations?
There are 4 main exemptions that a Landlord may seek to invoke under the MEES Regulations:
This is where the Landlord, despite reasonable endeavours, cannot obtain any necessary third party consent (such as the consent of the tenant or a superior landlord) to carry out the improvements.
This is where the Landlord has obtained a report from an independent surveyor stating that the relevant improvements would result in a devaluation of the property by more than 5%.
(C) Temporary exemption
This is where there are specific circumstances under which the Landlord may need additional time to carry out the improvements, such as where a renewal lease is granted pursuant to the Landlord and Tenant Act 1954.
(D) Nothing further to be done
This is where all of the relevant improvements have been carried out or where there are no relevant improvements that can be made to the property. This exemption would include situations such as when the "pay back" test described above is not satisfied or when the Landlord has carried out all relevant improvements but the property is still below the required energy rating of "E".
If any of the above exemptions apply, a Landlord is not required to carry out the relevant improvement, although in every case the Landlord must register the exemption on a central register (known as the "PRS Exemptions Register") and provide evidence in support. In addition, the exemptions are only valid for a limited period of time; exemptions (A), (B) and (D) above last for 5 years and exemption (C) lasts for 6 months.
What are the consequences of breaching the MEES Regulations?
Firstly, it is important to note that even if a lease is granted in breach of the MEES Regulations (ie. where the EPC rating is below "E"), the lease will still be valid and legally enforceable for both parties. It will simply have been granted unlawfully in respect of the MEES Regulations, which could lead to financial consequences for the Landlord.
Landlords could end up with a fine of £10,000 or 20% of the rateable value of the property or properties (whichever is higher up to a maximum of £150,000). As illustrated, this has the potential to be a very expensive breach, particularly if multiple properties are involved. In addition to financial penalties, there will be an option for Landlords to be 'named and shamed' by way of publication.
In addition, if the improvements required by the MEES Regulations are not carried out for a property owner this could also potentially result in a lower property value as a potential purchaser may factor in the cost of carrying out the improvements if intending to let the property in future, or in lower rent as a potential tenant may take into account the lower energy rating compared to other properties being let in the area.
Issues to consider
The MEES Regulations now in effect will have a significant impact on transactions involving leases, particularly for Landlords either granting a new lease or renewing a previous lease, as well as purchasers of a property that is or will be subject to a lease. It is therefore important for a purchaser to incorporate inquiries on compliance with the MEES Regulations when carrying out due diligence on a property.
Once a Landlord has ascertained that the MEES Regulations apply and the energy rating for the property is below "E", the Landlord should firstly decide whether to apply for an exemption or carry out the relevant improvements. If the latter, the cost of carrying out the works would usually be borne by the Landlord given the nature of the works being considered a capital improvement rather than a repair to the property. If a new lease is being granted, it may be possible for provisions to be incorporated in the lease requiring the Tenant to pay for the cost of the improvements although ultimately this will be a matter of negotiation between the parties.
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