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Break clauses in leases – a new aspect to consider

Reasons to choose Wilson Browne

Break clauses have long been a cause for disputes between landlords and tenants.  Over the years the conditions that landlords can reasonably attach to break clauses have been reduced.   Generally speaking there are now three key conditions that a tenant must comply with in order to exercise a break in a lease:

  1. Notice must be served sometime in advance – often 6 months;
  2. Rents must be paid up to date – usually for the whole quarter and then a refund will be issued by the landlord after the break;
  3. Tenant must give up occupation of the property.

However, sometimes at the point the lease is originally negotiated and agreed it is stated that the tenant must also make an additional payment to the landlord if it wants to break the lease.  Historically this payment has been treated as if it is exempt from VAT but guidance issued in September revises this and states that break fees will be a supply for VAT purposes and so if a tenant pays VAT on the rent then it must also pay VAT on the break fee.

This will not necessarily be obvious to a tenant as the landlord may not issue a VAT invoice at the point the payment needs to be made but in order for the break to work, the tenant must pay the VAT element and then ask the landlord for a VAT invoice afterwards.

This guidance therefore has a major impact on upcoming break clauses where there is a condition that a payment must be made but because the guidance is retrospective landlords who have charged break fees in the last four years should review their records to find out whether they should be retrospectively charging former tenants VAT on the break fee.

Nina Wilson, Partner comments

“On 25th January 2021 HMRC issued further guidance to state that the guidance it issued in September will be applied from an unspecified future date. There is some thought that the guidance issued in September was an incorrect and too expansive interpretation of a court case and possibly may also have applied to dilapidations payments as well as break payments.

There is obviously some uncertainty around this whole issue and landlords and tenants should take specific advice on these matters whilst the uncertainty continues.”

Nina Wilson

Posted:

Nina Wilson

Partner

Nina is a Solicitor and Partner of almost 20 years experience advising clients on commercial property law. A Legal 500 recognised Lawyer, Nina has acted in multi-million pound acquisitions and development agreements.