Minimum Energy Efficiency Standards – Deadline 1 April 2023

While it is already unlawful to let substandard property, as of 1 April 2023 it will be unlawful to continue to let substandard property unless all relevant energy efficiency improvements have been made or an exemption applies.

Landlords should urgently consider the energy efficiency ratings of their properties and consider what steps they will need to take in order to comply with their legal requirements.

The imaginatively named Energy Efficiency (Private Rented Property) (England and Wales) Regulations 2015 (also known as the Minimum Energy Efficiency Standards regulations or MEES regulations for short) were introduced in 2015 as part of the wider strategy to improve energy efficiency in the property industry. The regulations affect both commercial and domestic properties, albeit with different requirements. This note focusses on the effect of these regulations on landlords and tenants of commercial property.

As of 1 April 2018, it became unlawful for landlords of commercial property to grant (or renew) leases of commercial property that was "substandard" unless the landlord had carried out all relevant improvements or had registered an exemption. On 1 April 2023, it will become unlawful to continue to let those leases. This will extend the effect of the regulations to those long leases that were granted prior to April 2018.

Failure to comply with the MEES regulations can lead to civil penalties which are set by reference to the property's rateable value. The penalty for letting a property for fewer than three months in breach of the MEES regulations will be 10% of the property's rateable value, subject to a minimum penalty of £5,000 and a maximum penalty of £50,000. After three months, the penalty rises to 20% of the rateable value, with a minimum penalty of £10,000 and a maximum of £150,000.

Where a property is let in breach of the MEES Regulations or where a penalty is imposed, the lease as between the landlord and the tenant remains valid and in force.

What is a substandard property?

A substandard property is a property that has a valid Energy Performance Certificate (EPC) with a rating below the minimum level. The current minimum level is an "E" rating. If there is no valid EPC, then a check should be undertaken as to whether an EPC should have been commissioned but wasn't. However, it is important to note that there may be good reason for there being no EPC as some properties are exempt or no triggering event may have taken place.

What are relevant improvements?

Relevant energy efficiency improvements are improvements that would achieve "a simple payback of seven years or less". Broadly speaking where the savings on energy bills over 7 years equals or exceeds the costs of purchasing and installing the improvement (there is a statutory calculation that takes account of interest when assessing this calculation).

It should be noted that given the current high prices of energy more works will fall within the definition of relevant improvement works because the savings are calculated based on the unit cost of the energy. Therefore even if you have previously considered whether there are any improvements that can be made you may need to reassess these based on current energy prices.

There are issues for landlords and tenants caused by these regulations. Since the regulations only prohibit landlords from letting the property but don't actually carry an obligation to do the works, standard lease wording would not normally enable the landlord to pass the burden of compliance with the MEES regulations on to their tenants. Additionally, although the prohibition falls on landlords and requires them to expend capital to make the improvements, it is normally the tenants that benefit from the improved energy efficiency and lower energy costs. While this ought to be reflected in rental values, this is not necessarily reflected in practice. Many landlords therefore seek to recover the costs of energy efficiency improvements through service charges. Care must be taken by both sides when negotiating leases to ensure that the benefits and costs are properly and fairly spilt between them.

If all relevant improvements have been made the landlord can register that fact and they will be exempt from the MEES regulations for 5 years.

What exemptions are available?

This is an area in which the particular facts relating to each case will be relevant and advice should be sought from an EPC surveyor in relation to the particular facts but we note that in general:

• Where the landlord requires consent to carry the improvements and is unable to obtain that consent, whether from the tenant or a third party (e.g. lender, planning permission, etc.) or where consent is given subject to conditions the landlord cannot reasonably comply with then the landlord may register an exemption, which will last for 5 years.
• Where the improvement works would reduce the market value of the property by more than 5% then the landlord may register an exemption, which will last for 5 years.

Additionally, there are temporary exemptions that can be applied for in a number of circumstances including where the landlord continues to be or becomes a landlord due to grant of a lease in accordance with a contractual obligation, or in accordance with the Landlord and Tenant Act 1954, or due to a tenant's insolvency. Those exemptions last only 6 months.

Future proposals

As part of their ongoing consultations regarding MEES regulations, it should be noted that the government consultation refers to increasing the minimum threshold to "C" rating by 2027 and "B" rating by 2030. Given that the average lease term is now just over 7 years, and that in government research published in March 2021 only 9% of the private rented non-domestic sector had an EPC rating of "B" or better, most leases will be caught by these regulations.

Landlords will need to

1. assess their portfolios now to establish which properties are substandard and which may become substandard as the minimum threshold increases;
2. consider what relevant improvements are available, what the costs would be, what consents are needed, and when, and how those works can be undertaken;
3. review their leases to ensure that they have adequate provisions enabling them to share the burden and benefit of these works with their tenants; and
4. consider how they will fund the improvement works and what funding options may be available.

Tenants will need to

1. assess their portfolios now to establish which properties they occupy are or may become substandard;
2. consider what relevant improvements are available, what the costs would be, what consents are needed, and when, and how those works can be undertaken;
3. review their leases to ensure that landlords cannot pass unfair costs burdens or capital improvement costs on to them.
4. consider whether to approach landlords now to gain the benefit of works that will ultimately reduce their energy costs.

Please contact Michael Goldfinch - Associate in our Commercial Department for further information