Leases and underleases - Structure and content of a lease

Learning Outcomes

This article outlines the structure, content, and legal controls of leases and underleases, including:

• Essential characteristics and formalities for creating leases and underleases, including certainty of term, exclusive possession, consideration, and deed requirements
• The lease/licence distinction and security of tenure implications for business tenants
• Main operative parts of a lease: prescribed clauses, parties, property, term, and rent
• Leasehold covenants on repair, insurance, user, alterations, and alienation
• Rent review provisions: assumptions, disregards, hypothetical lease, and open market valuation
• Alienation processes—assignment and underletting—and statutory duties regarding consent and AGA requirements
• Forfeiture procedures, relief, and constraints on repair breaches
• Underlease parameters: term, mirror covenants, superior landlord consent, and contracting out of the Landlord and Tenant Act 1954
• Registration and notice requirements for leases and underleases, and continuing liability rules pre‑ and post‑1996

SQE1 Syllabus

For SQE1, you are required to understand the structure and content of leases and underleases, including the main operative terms, key covenants, rent review mechanisms, and statutory controls, with a focus on the following syllabus points:

• The essential elements and structure of a lease and underlease
• The main operative terms: parties, property, term, rent, and covenants
• Types of leasehold covenants (absolute, qualified, fully qualified) and statutory modification
• Repair, insurance, user, alterations, and alienation covenants
• Rent review provisions and the concept of open market rent review
• Statutory controls on lease terms (e.g., Landlord and Tenant Acts 1927, 1954, 1988)
• The distinction between leases and underleases and the requirements for a valid underlease
• Assignment, forfeiture, relief, AGA, s.17 notices and overriding leases
• Registration and protection of leasehold interests (including short vs registrable leases)

Test Your Knowledge

Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision.

1. What are the minimum essential elements required for a valid lease?
2. What is the difference between an absolute, qualified, and fully qualified covenant in a lease?
3. Which statutory provision implies that landlord’s consent to assignment or underletting must not be unreasonably withheld?
4. What is the effect if an underlease is granted for a term equal to or longer than the headlease?

Introduction

A lease is a legal estate granting exclusive possession of land for a defined period, subject to agreed terms. Underleases (subleases) are leases granted out of an existing lease, creating a further layer of landlord and tenant relationships. For SQE1, you must be able to identify the structure and content of leases and underleases, the main operative terms, and the key covenants and statutory controls that affect their drafting and enforceability.

Key Term: lease
A legal estate granting exclusive possession of land for a fixed or periodic term, subject to agreed terms and covenants.

Key Term: underlease
A lease granted by a tenant out of their own leasehold interest, for a term less than the residue of the headlease.

Structure of a Lease

A typical lease is structured to set out the relationship between landlord and tenant, the property demised, the term, the rent, and the rights and obligations of both parties. Understanding the structure is essential for both drafting and interpreting leases in practice.

Prescribed Clauses and Formalities

Where the landlord’s title is registered and the lease is substantively registrable (generally terms exceeding seven years), prescribed clauses must be included for leases dated on or after 19 June 2006. These clauses appear at the front of the lease and summarise key information (e.g., title numbers, parties, property, term and rent) required for registration. A lease for more than three years must usually be created by deed; short legal tenancies not exceeding three years at the best rent may be created without deed if they take effect in possession.

Key Term: prescribed clauses
Mandatory front-sheet clauses for registrable leases (granted on or after 19 June 2006) that capture core registration data.

Parties and Property

The lease must clearly identify the landlord (lessor) and tenant (lessee), including their full legal names and addresses. Defining any guarantor(s) is common in commercial leases. The property demised should be described precisely, often by reference to a plan, to avoid disputes about the extent of the premises. In multi-let buildings, definitions should distinguish the “Premises” (the internal envelope) from the “Building,” with rights granted and reserved to reflect practical occupation.

Key Term: quiet enjoyment
A landlord’s covenant not to substantially interfere with the tenant’s lawful occupation and use of the demised premises.

Term

The lease must specify the commencement date and the duration of the term. This may be a fixed term (e.g., 10 years) or a periodic tenancy (e.g., month-to-month). The term must be certain. Commercial leases commonly include a break clause allowing one or both parties to terminate early on notice. It is also possible to grant a reversionary lease that commences at a future date; such a lease is valid provided the date of possession is not more than 21 years after the grant.

Key Term: reversionary lease
A lease granted now but taking effect at a future date; valid provided commencement of possession is within 21 years of grant.

Key Term: periodic tenancy
A tenancy that continues from period to period (e.g., monthly or quarterly) until terminated by proper notice.

Rent

The lease will set out the rent payable, the frequency of payment (e.g., monthly, quarterly), and any provisions for review or increase. Rent is usually payable in advance and may be reserved alongside other sums such as insurance rent and service charge (often also reserved “as rent” to facilitate forfeiture). Commercial rent is typically exclusive of VAT where the landlord has opted to tax; rent apportionment and payment mechanics (e.g., standing order) should be drafted clearly.

Covenants

Covenants are promises made by the landlord or tenant. They are central to the lease and regulate the use, repair, and enjoyment of the property.

Types of Leasehold Covenants

Key Term: absolute covenant
A covenant that absolutely prohibits the tenant from doing a specified act, with no exceptions.

Key Term: qualified covenant
A covenant that prohibits the tenant from doing a specified act without the landlord’s prior consent.

Key Term: fully qualified covenant
A covenant that prohibits the tenant from doing a specified act without the landlord’s prior consent, and provides that consent must not be unreasonably withheld.

Certain statutes modify covenants. Covenants against assignment or underletting are typically upgraded so that consent must not be unreasonably withheld. Landlords are under a duty to respond to applications for consent within a reasonable time and must give written reasons where consent is refused or granted subject to conditions; those conditions must themselves be reasonable.

Common Tenant Covenants

• Repair: A tenant may be required to keep the premises in repair and/or “in good condition.” “To keep” implies “to put” into repair, which may oblige the tenant to remedy pre‑existing disrepair. Schedules of condition limit initial liability to the recorded state. For repair breaches, damages are generally limited by the diminution in the value of the reversion rather than reinstatement cost.
• Insurance: In FRI leases, the landlord commonly insures the building at full reinstatement value and the tenant pays the premium via insurance rent. The lease should provide rent suspension where an insured risk renders the premises unfit and a landlord obligation to apply insurance proceeds to reinstatement.
• User: The permitted use is defined, often by reference to the Town and Country Planning (Use Classes) Order. A narrow user clause can depress market rent on review; tenant flexibility is negotiated with qualified change-of-use covenants.
• Alterations: Structural/external alterations are traditionally prohibited absolutely; internal non-structural alterations may be permitted subject to consent. Statutory controls may affect how improvements and alterations are treated.
• Alienation: Assignment and underletting are often restricted, typically by qualified or fully qualified covenants. The lease will set conditions (e.g., providing financial references, an AGA, and compliance with registration/notice obligations).

Key Term: full repairing and insuring (FRI) lease
A lease under which the tenant bears the cost of repair and the cost of insuring the building (usually via insurance rent), leaving the landlord with clear rent.

Common Landlord Covenants

• Quiet enjoyment: The landlord covenants not to interfere with the tenant’s lawful use of the premises.
• Insurance and repair: In multi-let buildings, the landlord insures and maintains the structure and common parts, recovering costs via a service charge. A landlord may reserve self‑help rights to carry out works where a tenant fails and recover the cost as a debt.

Rent Review

Many commercial leases include a rent review clause, allowing the rent to be adjusted at intervals (typically every 3–5 years). The most common method is open market rent review.

Key Term: open market rent review
A mechanism for adjusting rent to the current market value for similar premises, based on specified assumptions and disregards.

Key Term: assumptions and disregards
Provisions in a rent review clause that direct the valuer to assume or disregard certain facts when determining the open market rent.

The “hypothetical lease” is assumed to be let on the same terms (save for the rent and including the rent review machinery), with vacant possession and the tenant having complied with covenants. Typical disregards include the value of the tenant’s voluntary improvements, the tenant’s occupation and goodwill, and any effect of the tenant’s breaches. Time limits and arbitration/expert determination routes are commonly included. Without an express rent review clause, rent cannot be increased during the term.

Assignment and Underletting

The lease will set out whether and how the tenant may assign (transfer) the lease or grant an underlease. Statutory controls may apply.

Key Term: alienation
The process by which a tenant disposes of their leasehold interest, by assignment or underletting.

A tenant seeking consent to assign or underlet must follow the lease procedures. Landlords must respond within a reasonable time and give reasons for refusal; unreasonable refusal can ground damages. Conditions (e.g., requiring an AGA on assignment of a “new lease”) must be reasonable to be enforceable.

Key Term: Authorised Guarantee Agreement (AGA)
An agreement under which an outgoing tenant guarantees its immediate assignee’s performance of lease covenants in a “new lease.”

Statutory Controls

Section 19(1)(a) of the Landlord and Tenant Act 1927 upgrades qualified covenants against assignment or underletting to fully qualified covenants, so that landlord’s consent must not be unreasonably withheld. The Landlord and Tenant Act 1988 imposes further duties on landlords to respond to applications for consent within a reasonable time and to give reasons for refusal.

Continuing liability and notices

Leases granted before 1 January 1996 (“old leases”) preserve privity of contract, so the original tenant remains liable for the whole term. Leases granted on or after that date (“new leases”) release the tenant on lawful assignment, subject to any AGA. Recovery of fixed charges (rent, service charge, liquidated sums) from former tenants or guarantors requires service of a section 17 notice within six months of the sum falling due; payment may entitle the payer to an overriding lease.

Key Term: section 17 notice
Notice under the Landlord and Tenant (Covenants) Act 1995 served on a former tenant/guarantor to recover a fixed charge within six months of its falling due.

Key Term: overriding lease
An intermediate lease that sits between the landlord and current tenant, enabling a paying former tenant/guarantor to take control (e.g., by forfeiture and reletting).

Forfeiture

A forfeiture clause allows the landlord to terminate the lease early if the tenant breaches certain covenants (e.g., non-payment of rent). Statutory procedures must be followed, and tenants may apply for relief from forfeiture.

Key Term: forfeiture
The landlord’s right to terminate the lease early due to tenant default, subject to statutory procedures and possible relief for the tenant.

For breaches other than non‑payment of rent, a s.146 Law of Property Act 1925 notice must be served specifying the breach, requiring remedy if capable of remedy, and requiring compensation. No s.146 notice is required for non‑payment of rent. Relief from forfeiture may be granted on terms (e.g., paying arrears, costs). For repair breaches, the Leasehold Property (Repairs) Act 1938 may restrict enforcement where the lease exceeds seven years and at least three years remain, if the tenant serves a counter‑notice.

Key Term: s.146 notice
Notice served under the Law of Property Act 1925 before forfeiture for breaches other than non‑payment of rent; must specify the breach, require remedy (if capable) and compensation.

Other Landlord Remedies

Debt action for arrears, recourse to guarantors and rent deposits, and self‑help provisions (Jervis v Harris) can supplement forfeiture. Commercial rent arrears recovery (CRAR) is available for pure rent arrears in commercial premises, subject to statutory steps and limits.

Underleases

An underlease is a lease granted by a tenant out of their own leasehold interest. The underlease must be for a term less than the residue of the headlease and must comply with the terms of the headlease. The tenant remains liable to the head landlord for performance of the headlease covenants.

Underleasing is more than a matter of term length. The underlease should “mirror” appropriate headlease covenants (e.g., alienation and alterations restrictions, user), and contain compatible rent review provisions to avoid mismatches between headrent and under‑rent in a falling market. Where the headlease requires superior landlord consent to underletting or imposes conditions (e.g., contracting out of the Landlord and Tenant Act 1954), these must be satisfied.

Requirements for a Valid Underlease

• The underlease must be for a term less than the residue of the headlease. An underlease for a period equal to the headlease term will operate as an assignment of the headlease; if it purports to exceed the residue, it is ineffective.
• The underlease must not conflict with the terms of the headlease; conditions precedent (e.g., superior landlord’s written consent) must be met.
• The tenant must usually obtain the head landlord’s consent before granting an underlease if required by the headlease; the head landlord’s consent may be documented in a licence to underlet with direct covenants from the undertenant to the superior landlord where the lease so requires.
• Where contracting out of the Landlord and Tenant Act 1954 is required, the prescribed warning notice and tenant declaration process must be completed before the undertenant becomes contractually bound.

In registered land, formal notice of completion of the underlease is commonly served on the superior landlord in accordance with the lease terms; where the underlease exceeds seven years, it must be substantively registered. Short legal leases may have overriding status but are still best protected (e.g., by a notice of the easements they contain).

Worked Example 1.1

A tenant holds a 15-year lease and wishes to grant a 10-year underlease of the whole premises. The headlease prohibits underletting without landlord’s consent, and the tenant does not seek consent.

Question: What is the legal position?

Answer:
The underlease is valid only if it is for a term less than the residue of the headlease. However, granting the underlease without landlord’s consent is a breach of covenant, and the landlord may seek to forfeit the headlease or claim damages.

Worked Example 1.2

A lease contains a qualified covenant against assignment. The tenant applies for consent to assign, but the landlord refuses without giving reasons.

Question: Is the landlord’s refusal lawful?

Answer:
No. By statute, the landlord must not unreasonably withhold consent to assignment. The landlord must give reasons for refusal, and failure to do so may entitle the tenant to damages.

Worked Example 1.3

A commercial lease includes an open market rent review every five years, with assumptions that the premises are in good repair and disregards for tenant’s improvements.

Question: Why are assumptions and disregards included?

Answer:
Assumptions and disregards ensure the rent review reflects the true market value, unaffected by the tenant’s breaches or improvements, and avoids unfairly increasing or decreasing the rent.

Worked Example 1.4

A tenant is in arrears of rent and has carried out unauthorised internal alterations. The landlord wishes to forfeit.

Question: What steps must the landlord take?

Answer:
For non-payment of rent, s.146 notice is not required; forfeiture may proceed subject to any contractual preconditions. For the unauthorised alterations, a s.146 notice must be served specifying the breach, requiring remedy (if capable), and compensation. Relief may be granted if arrears are paid and breaches remedied.

Worked Example 1.5

A five-year-old “new lease” is assigned with landlord’s consent and the landlord requires the outgoing tenant to provide an AGA.

Question: Is the landlord entitled to require an AGA?

Answer:
Yes, for “new leases” a landlord may require an AGA as a reasonable condition of consent where the lease permits, so that the outgoing tenant guarantees the immediate assignee’s performance until the next lawful assignment.

Worked Example 1.6

A tenant holds a headlease with 12 years left. They grant an underlease of the whole premises for 12 years.

Question: What is the effect?

Answer:
An underlease for a term equal to the residue of the headlease operates as an assignment of the headlease rather than an underlease. If granted as an underlease, it is likely to be treated as an assignment in substance, entailing alienation and consent requirements for assignment.

Exam Warning

When drafting or interpreting lease covenants, always check for statutory modifications. Many qualified covenants are upgraded by statute, and landlords must act reasonably and promptly when considering applications for consent.

Revision Tip

For SQE1, be able to identify the difference between absolute, qualified, and fully qualified covenants, and know which statutory provisions apply to leasehold covenants.

Summary

Key Point Checklist

This article has covered the following key knowledge points:

• The essential structure and content of leases and underleases, including prescribed clauses where required
• Formalities for creating leases and short tenancies, and the lease/licence distinction
• The main operative terms: parties, property, term (including break and reversionary leases), rent, and covenants
• Types of leasehold covenants and their statutory modification and duties to consider consent reasonably
• Repair and insurance covenants and their interplay, including rent suspension and reinstatement obligations
• User, alterations, and alienation covenants and how statutory controls affect reasonableness and conditions
• Rent review provisions, including the hypothetical lease and common assumptions and disregards
• Assignment and underletting processes, AGA requirements for “new leases,” and continuing liability in “old leases”
• Forfeiture procedures, s.146 notices, relief from forfeiture, and LPRA 1938 constraints on repairing breaches
• The requirements for a valid underlease (shorter term, compliance with headlease, superior consent) and notice
• Section 17 notices and overriding leases in recovery of fixed charges from former tenants/guarantors
• Registration and notice aspects for leases and underleases based on term length

Key Terms and Concepts

• lease
• underlease
• prescribed clauses
• quiet enjoyment
• reversionary lease
• periodic tenancy
• full repairing and insuring (FRI) lease
• absolute covenant
• qualified covenant
• fully qualified covenant
• open market rent review
• assumptions and disregards
• alienation
• Authorised Guarantee Agreement (AGA)
• section 17 notice
• overriding lease
• forfeiture
• s.146 notice