What are turnover leases and are they right for you?

A turnover lease is a lease in which the tenant’s rent – usually retail tenants – is determined in part, or entirely by the actual turnover generated by the tenant’s business operating out of the premises. Whilst common across other European markets, it is yet to gain significant traction in the UK. However, it is thought that as a result of the Coronavirus pandemic turnover leases may potentially increase in popularity.

Almost all turnover leases are unique, however they typically follow one of the two models below:

1. The rent is determined by the tenant’s turnover, with the tenant committing to a minimum level of turnover. If this approach is utilised, then there is usually a maximum turnover, above which the tenant shall not have to pay additional rent.

2. The rent is calculated on the tenant’s turnover, with the tenant paying an agreed-upon base rent with annual uplifts of the base rent payable. Any increase in turnover from the preceding accounting period will be used to calculate the uplifts.

Turnover leases encourage a symbiotic relationship between both the tenant and the landlord, with the landlord likely to be more actively involved than in a standard lease as they are more interested in their tenant’s trading success to maximise the rent they receive.

Other than landlords becoming increasingly engaged and supportive of tenants, other benefits include, the ability for start-ups – where they couldn’t meet the financial criteria of a traditional standard lease – to potentially take advantage of turnover leases as they provide the ability to move from a temporary lease to a longer lasting tenure. Additionally, turnover leases provide increasing flexibility for businesses to operate during difficult and uncertain times, such as the Coronavirus pandemic. When a tenant is operating successfully and generating higher turnover, the landlord receives a higher rent. Accountants are often asked to certify the rent via a Report of Factual Findings to give the landlord confidence that the correct turnover is being reported. For landlords, being able to review information relating to their tenant’s operations will help them make an informed decision when it comes to renewing their lease.

Whilst turnover leases are disruptive in their own right, it is questionable as to whether they are a sustainable solution to a seemingly short-term problem i.e. is it better a property sits vacant or should landlords risk losing rent money. The continuing trend of online shopping – exacerbated by the Coronavirus pandemic – has left many retailers such as TopShop and Forever 21, closing their bricks and mortar stores and operating completely (or nearly completely) online, meaning that whilst turnover rents are disruptive in their own rights – the growth of online shopping is even more so.

For landlords, it is vital that turnover lease agreements are drafted thoroughly by a professional – as turnover leases often vary in their terms and conditions – in order to prevent any complicated disputes. Additionally, a poorly-performing tenant may affect the value of the commercial property. You can read more about defaulting tenants effecting commercial property valuations here.

It is important that both landlords and tenants take into consideration all factors relating to turnover leases before entering into a contract. Commercial property landlords may question if turnover leases provide them with the security they seek, and if the potential benefits outweigh the risks. For tenants, the shared pain and gain outlook may be what they are looking for.

At Price Bailey LLP, we often provide landlords with support relating to Factual Finding reports. If you would like further support regarding this or another matter relating to turnover leases, then please contact Darren Amott, Corporate Partner at Price Bailey LLP.

We always recommend that you seek advice from a suitably qualified adviser before taking any action. The information in this article only serves as a guide and no responsibility for loss occasioned by any person acting or refraining from action as a result of this material can be accepted by the authors or the firm.

 

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