In most commercial leases, the position is that the Landlord will be under the obligation to insure the Property and recharge the cost of that insurance to the Tenant. This way, the Landlord has full control of the insurance and can satisfy itself that the Property is being adequately insured, make any claims and oversee any repairs and reinstatement. Rarely, in commercial leases, would we see the Tenant being under the obligation to insure the Property.
The insurance policy would broadly cover the loss caused by damage to the Property due to a risk identified under the policy. Those risks, known as the ‘usual risks’ tend to include: fire, lightning, explosion, impact, earthquake, storm, tempest, flood, bursting or overflowing of water tanks or pipes, damage to underground water, oil or gas pipes or electricity wires or cables, subsidence, ground slip, heave, riot, civil commotion, strikes, labour or political disturbances, malicious damage, aircraft and aerial devices and articles dropped accidentally from them. Over the years the ‘usual risks’ have evolved with some insurers are starting to include ‘terrorism’ as a standard covered risk in their policy.
What insurance provisions should a commercial lease contain?
When negotiating a commercial lease, the insurance provisions are usually agreed easily provided the provisions contain, at the very least, these points 1-7:-
1. A provision that the Landlord insures:
a) the Property for its full reinstatement cost/value against the usual risks; and
b) against the loss of any rent not payable to the Landlord in the event that the Property cannot be used/occupied by a Tenant due to damage (known as ‘loss of rent’ insurance).
Reinstatement means the actual replacement or repair of the Property so that it is rebuilt to mirror, as closely as possible, the Property as it was before the damage. The reinstatement value is based on the estimated amount that it would cost to rebuild the Property so that it is exactly the same as it was before it was damaged or destroyed, or as near as reasonably possible. Whereas the reinstatement cost is the actual cost of reinstatement of the Property, whatever that turns out to be.
2. The Tenant pays the cost of the insurance premium to the Landlord;
3. The Landlord must reinstate the Property if it is damaged by a risk which is covered by the insurance. A Tenant would expect the lease to contain such an absolute obligation on the Landlord. It’s usually accepted that there may be some limitations to this obligation for example if reinstatement is not possible because requisite planning permissions cannot be obtained.
4. The rent will be suspended (in whole or in part depending on the level of damage) if the Property is not usable while it’s damaged/being reinstated by an Insured Risk. (Landlords – this is why it’s important to make sure your policy includes loss of rent insurance). Again there may be some limitations to this obligation for example, where the insurance policy has been compromised by the Tenant, the Landlord (and their insurers) may decide that the Tenant cannot benefit from a rent suspension if they were the cause of the damage;
5. The Landlord can terminate the lease if the Landlord is not able to reinstate the Property following its damage. A Tenant may want this termination right to be mutual. The Tenant may want to see a right in their favour to terminate the lease if the landlord has not reinstated the Property within a certain timescale. This ensures the Tenant is not tied into a lease without any certainty;
6. The Tenant’s repairing obligation in the Lease should be diluted and exclude any damage to the Property resulting from a risk that the insurance covers. For example, if the insurance policy covers subsidence, the Tenant should not be expected to repair the subsidence damage to the Property.
7. Obligations should be placed on the Tenant to ensure that the insurance policy is properly preserved. As a matter of course, the Tenant should:-
a) not vitiate the insurance policy;
b) report damage to the Landlord as soon as it occurs;
c) notify the Landlord of anything which the insurer should know about or which may lead to a claim.
Generally, the Tenant should also:
a) ensure the Property is never left vacant. If it is left vacant for a period of time then, inform the Landlord and ask that the Landlord informs the insurer. Some insurance policies exclude liability where the Property is left vacant for a period without the insurer being informed;
b) ensure the Property is adequately kept safe and secure (security alarms, codes, logs of who is holding the keys);
c) carry out a fire risk assessment of the Property at regular intervals and any suggestions are implemented;
d) regularly check all conduits and installations (for example, electricity, pipes, cables).
All of the above points 1-7 should, at the very least, be contained in a commercial lease to protect both the Landlord and the Tenant.
The above points look at how the lease is dealt with following damage by a risk which is covered by the insurance policy. But what happens if the Property has been damaged by a risk which is not covered for example, because it was uncommercial to insure against that particular risk on the policy at the time? These are known as ‘Uninsured Risks’. Most leases won’t cover Uninsured Risks and damage caused by them but the Tenant should try to expand the above points 3-7 to apply in cases of uninsured damage as well.
As mentioned, the Landlord will take out ‘loss of rent insurance’ to protect the landlord’s rental income in the event that the Property is damaged or destroyed and the rent is suspended under the terms of the Lease. It may also be prudent for the Tenant to take out the following insurances:
- Contents insurance;
- Public liability insurance;
- Business interruption insurance;
- Plate glass insurance.
BHW regularly advises Landlords and Tenants on commercial leases and insurance provisions, for further information or advice contact BHW’s Commercial Property department on 0116 289 7000 or email email@example.com.