Navigating dilapidations disputes. Early advice, clear strategy, better outcomes.

Whether you operate a restaurant, bar, cafe or hotel, it is almost certain that some form of dilapidations liability will arise when you hand back the property to your landlord. Understanding dilapidations and seeking professional advice can help you plan, budget and negotiate a better outcome when your lease comes to an end.

Dilapidations relate to the tenant’s failure to perform its obligations relating to the physical condition of the premises when the lease ends.

The lease will usually set out the tenant’s obligations which typically fall into the following categories:

• repairing covenant
• decorating covenant
• covenant to reinstate alterations made by the tenant (this may be set out in the lease and/or any licence for alterations).
• compliance with statutory obligations.
• covenant to yield up premises at the end of the lease

If a tenant fails to comply with these obligations in the lease then at the end of the lease term, the landlord can seek damages from the tenant as a result of the tenant’s breaches.

The process usually begins when the landlord serves a Schedule of Dilapidations. The Schedule is often prepared by a building surveyor and sets out the works required to be done to premises in order put them into the state in which they ought to have been left by the tenant if the tenant had complied with its covenants and obligations in the lease.

The Schedule of Dilapidations should set out:

• the clause in the lease which has allegedly been breached by the tenant;
• the alleged breaches of obligations by the tenant (e.g. repair, redecoration, reinstatement);
• the works which are reasonably required to remedy the breaches identified in the schedule; and
• the landlord’s estimated costs relating to the repairs and reinstatement

The Schedule of Dilapidations is usually accompanied by a Quantified Demand which sets out the monetary sum claimed by the landlord as damages for the dilapidations, as well as any other items of loss claimed by the landlord (such as the landlord’s loss of rent for the duration of the period reasonably necessary to carry out works required to put the premises back into repair, together with other property costs such as service charges and insurance premiums that would have been payable during this period).

The timing usually depends on the terms of the lease.

There are two types of Schedules of Dilapidations:

• An Interim Schedule of Dilapidations – this is served during the term of the lease. A landlord normally has the right to undertake inspections during the term of the lease. If they discover that the property is not being maintained in accordance with the terms of the lease then the landlord can serve an interim schedule setting out the breaches alleged to have occurred.
• A Terminal Schedule of Dilapidations – this is prepared and served at or shortly after the end of the lease.

The landlord might send a Schedule of Dilapidations to the tenant before termination of the lease and if this is done then at the date of the termination of the lease, the landlord should confirm that the situation remains as stated in the initial Schedule or send a revised Schedule to the tenant within a reasonable time.

Both the solicitor and the surveyor play crucial but distinct roles in the dilapidations process.

Ideally, the solicitor should be instructed early on to advise on the terms of the contractual documents governing the tenant’s occupation of the premises (i.e the lease and any licence for alterations) and to advise on liability and exit strategy; they will review and advise on the Schedule of Dilapidations; manage compliance with the Pre-action Protocol and provide strategic advice to include advice on negotiations and settlement.

The building surveyor and the valuation surveyor represent different specialist disciplines and often work together on dilapidations claims:

• The building surveyor determines what work is required and the likely cost; they will inspect the property; advise and report on the condition of the property and the breaches; prepare the tenant’s Response to the Schedule of Dilapidations and assists with the negotiations and settlement.
• The chartered valuation surveyor advises on the financial impact of the disrepair of the property on the property’s marketability and open market value and assists with negotiations particularly concerning what is known as the section 18/diminution in value – this caps the landlord’s dilapidations damages to the lower of (i) the figure for the negotiated cost of the works or (ii) the reduction in the property’s open market value arising as a result of the tenant’s breaches.

“The Pre-Action Protocol for Claims for Damages in Relation to the Physical State of Commercial Property at Termination of a Tenancy” (“the Pre-action Protocol”) sets out a clear procedure both the landlord and tenant are expected to have followed before a claim for terminal dilapidations is issued at court.

The aims of the Protocol are:

• to encourage the early exchange of information by setting out a timetable for the key stages
• to promote settlement of any prospective claim with a view to the parties avoiding litigation.
• to support the efficient management of court proceedings where litigation cannot be avoidedFailure to follow the Protocol is likely to result in costs sanctions being imposed by the court against the non-compliant party in any subsequent court proceedings.

The steps the landlord and tenant need to take pursuant to the Protocol are:

a) The landlord to send the Schedule of Dilapidations and Quantified Demand usually within 56 days after the termination of the lease.

b) The tenant to send its Response to the Schedule of Dilapidations, usually within 56 days after the landlord has sent the Quantified Demand. The tenant’s Response is usually prepared by a building surveyor and sets out in detail what items are admitted or disputed by the tenant. The tenant can also put forward alternative costings in its Response.

c) Disclosure of key documents – generally, the parties are required to provide each other with documents relevant to the landlord’s Quantified Demand and the tenant’s Response. Typically, the landlord will provide the contractual documents referred to in the Schedule of Dilapidations and any documents evidencing its future intentions for the property. The tenant will normally provide any inspection evidence, photographs and costings.

d) Negotiations – the landlord and tenant and/or their advisers are encouraged to meet before the tenant is required to send its Response or within 28 days after the service of the Response.

e) Quantification of loss – if the parties are still in dispute, prior to issuing proceedings, the landlord is required to quantify its loss by providing the tenant with a breakdown of the issues and consequential losses based on either:

• an expert valuation pursuant to section 18 of the Landlord and Tenant Act 1927 (see next section below); and/or
• an account of the actual cost of works carried out.

f) Stocktake – the parties should undertake a review of their respective positions and review the material that has been exchanged to see if court proceedings can be avoided and at least narrow the issues in dispute.

g) Court proceedings – if the parties have not resolved the dispute, then the landlord can issue court proceedings but it should consider alternative dispute resolution at every stage.

The most effective way to challenge a Schedule of Dilapidations is for the solicitor and the surveyor to work together; this collaborative approach ensures that the legal aspects are aligned with the technical expert evidence aspects of the dilapidations claim.

Examples of some of the ways to challenge are:

This point often causes confusion for tenants. Modernising a property does not override the tenant’s contractual obligations (in the lease or licence for alterations) to yield up the premises in repair and to reinstate any alterations.

Even with improvements, a tenant might face liability if:

• the lease requires the tenant to reinstate alterations at the end of the lease (e.g., remove partitions or installations).
• the improvements do not comply with the lease (i.e they are unauthorised alterations).
• the property is not in the decorative or physical condition required by the lease, despite the improvements.

A tenant should consider its potential liability for dilapidations as part of its overall business strategy to ensure there are no unwelcome surprises at lease end. In order to help manage and minimise a dilapidations claim, a tenant should consider the following: