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29 Oct 2002 : Column 237WH—continued

Upward-only Rental Contracts

1 pm

Mr. John Randall (Uxbridge): It is a great pleasure to serve under your chairmanship, Mr. Benton. I am delighted that the Under-Secretary of State, Office of the Deputy Prime Minister, the hon. Member for Harrow, East (Mr. McNulty), is my near neighbour, especially as much of the work that I have done on this subject has been guided by the Hillingdon and Harrow branch of the Federation of Small Businesses and, in particular, by Mr. Robert Ridley. I shall be interested to hear what the Minister has to say, as both our constituencies share that branch.

One of the issues that I will be discussing is the impact of upward-only rent reviews on various groups of people, including retailers. It is therefore appropriate for me to declare my interest as a director of a family-owned retail business, although we do not have to pay rent because we are hereditary retailers and own the freehold, so the issue does not apply to me. However, being in business gave me, and continues to give me, great opportunities to talk to many small and medium-sized enterprises. Those businesses will always complain legitimately about the problems caused by the burden of the plethora of regulations imposed on them. It is fair to note that successive Governments always promise that they will do something about those regulations—you may have heard those statements yourself, Mr. Benton—but, unfortunately, successive Governments seem to manage to pass more regulations than they remove.

This anomaly, as I will call it, has an adverse impact on many businesses, so it is up to us in Parliament to address it. There is a history of debates on the subject, and I noticed in the course of my research on it that, in years gone by, some of my hon. Friends tried to persuade the Conservative Government of the merits of the argument. In 1993, my hon. Friend the Member for Croydon, South (Richard Ottaway) introduced a ten-minute Bill on the subject, as did my hon. Friend the Member for South-West Hertfordshire (Mr. Page) in 1994. My hon. Friend the Member for Tiverton and Honiton (Mrs. Browning) has also been active on the problem, and I am sure that hon. Members from other parties have also asked questions about it. Unfortunately, it seems that, although the issue has been raised, it is like so much in government in that a great deal needs to be done before anything gets changed.

I will discuss later the code of conduct that has been put in place, but I shall first outline some of the problems involved. I am not an expert in commercial or leasehold law, but I have the benefit of some briefing notes on some of these points. The Landlord and Tenant (Covenants) Act 1995 abolished the old rules relating to privity of contract on new leases, but upward-only clauses for rent reviews can still be incorporated into business leases. One of the justifications for upward-only reviews is that no one forces anyone to sign a contract with an upward-only review in it. It is up to the individual to agree it or to decline to sign it.

In reality, small and medium-sized businesses, which are not backed up by great legal teams, feel under a great deal of pressure. They normally sign up to these things when times are good. The problem with upward-only

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rental agreements is that they take no account of current market conditions. When the rent comes up for review, it cannot stay the same or go down. The rent can only go up, even if market conditions have changed and there have been substantial changes in the surroundings. A good example would be a town centre that was suffering, as sadly many are, because an out-of-town shopping centre had opened. When times are good, problems can be absorbed, but when things are not so good, businesses will inevitably close.

The Government—I back them on this—have been making efforts to ensure that town centres are regenerated. Small businesses are very much part of that regeneration process and so it is important that consideration is given to helping them. It is also unfortunate that where the business rate is fixed, it takes rental values into consideration. That has another knock-on effect. A code of practice has been introduced which the Royal Institution of Chartered Surveyors has been working hard to try to encourage its members to adopt. Sadly, as it is a voluntary code, it has not had much effect.

In the past six months, for example, McDonald's has been negotiating on around 70 new leaseholds. It is trying to maintain its plan of opening 70 to 80 new restaurants a year. Out of the 30 resulting agreements during that period, no landlord has offered terms in line with the lease code. That is a good example of what we are up against. We often hear that prices and values may go down as well as up, yet this seems the only thing that I can think of that will always go up. The Chancellor would not be very popular if he suggested that interest rates could only go up. There is a real problem.

Another affected group is pub landlords, the majority of whom are self-employed tied tenants. They suffer many problems in being tied for the majority of liquor purchases, at the same time as having to cope with upward-only rental contracts. We are all aware of the difficulties faced by many pubs. The time has come seriously to consider banning upward-only rent reviews.

Such reviews operate in a way that does not recognise that in a low-inflation environment and increasingly fluid modern conditions, markets will go up and down. It is not unreasonable to say that most sectors should be privileged or protected against that—businesses are not—at the expense of others. That should apply to manufacturers and other sectors as well as retailers.

I urge the Government that now is the time. I am hopeful and do not want to talk down the economy by saying that we shall soon face tougher economic times, but I recognise that economic cycles occur. Business is well aware of that. My company has been in business for 110 years, during which many cycles have occurred. Somewhere along the line, despite what we hear from politicians of all parties, I am afraid that boom and bust may well return.

It is time to examine the provisions carefully. The voluntary code needs to be stiffened through legislation because it is not working. The Government can do something to help small businesses.

1.11 pm

The Parliamentary Under-Secretary of State, Office of the Deputy Prime Minister (Mr. Tony McNulty) : I had intended to stick to the niceties and refer to the hon.

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Member for Uxbridge (Mr. Randall) as the hon. Gentleman, but, in the interests of near-neighbourliness and non-partisanship, I shall refer to him as my hon. Friend and I congratulate him on securing the debate. I also accept that Randall and Sons has probably seen more cycles in its 110 years than the Tour de France. I shall let him into a little secret: I am not an expert on commercial leasehold law either and do not profess to be so in any capacity.

I agree that upward-only rent review clauses are a matter of real concern. Our business manifesto acknowledged that they are a source of grievance for many and we promised greater flexibility in the commercial property market. My hon. Friend has provided some of the historical background, but it may be worth reflecting on it again in greater detail.

Upward-only clauses first developed in commercial property leases when inflation took off in the 1960s and 1970s. Landlords letting property on the then prevalent 25-year leases did not want to be left behind with static incomes. By the 1980s virtually every commercial lease included them.

As long as the prices that businesses charged customers rose steeply year after year, few tenants complained about ever-increasing rents, but in the early 1990s the property market turned down as general business conditions worsened. Many small businesses—I accept what my hon. Friend said about them—already suffering badly from the impact of recession found themselves paying rents well above those available in the open market. Some even faced demands for substantial increases in rents, with rents being uprated on the basis of market comparisons that were rapidly becoming out of date. Locked into upward-only rent reviews, tenants had no choice but to pay up. For some, that was the final push over the edge into bankruptcy—or at least ceasing to be able to trade. Tenants then began to complain about their plight, bringing about Government interest in the problem.

The simplistic response, to which my hon. Friend alluded, is that upward-only rent review clauses are a matter of private contracts, so tenants do not have to agree to them. If a tenant does not like them, he can ask the landlord for something else, and if he or she will not agree to an alternative, the tenant should find another landlord who will. That is the easy and simplistic response, which I agree is deeply unsatisfactory. For one thing, there are few alternatives, and, furthermore, it is unreasonable to expect small businesses to be experts in the complexities of the commercial property market. My hon. Friend made the point that small businesses do not have armies of lawyers at their beck and call, as huge conglomerates such as Randall's of Uxbridge do.

Start-up businesses understandably want to focus on their business operations rather than the terms on which they will be occupying premises to carry out their business. As my hon. Friend said, as far as such businesses do focus on the lease, it is primarily on the initial rent payable to start trading, rather than the rent payable several years down the line, when things might not be as cordial—in the business sense—as they were when the business started.

Upward-only rent reviews are not in the interests of small businesses. Any small business would be well advised to ask for a short lease, as is happening

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increasingly often, so that it will not face any form of rent review. Otherwise, it could ask for a break clause timed to coincide with a rent review, which would allow the business to end the lease if the rent review had unpalatable consequences, and would, as my hon. Friend said, allow the business to appreciate the circumstances of the market at that time, rather than when it had signed up to a longer lease.

What should the Government do about upward-only rent review clauses? In 1994, the Government persuaded the property industry to introduce a code of practice on commercial property leases, not least because of the ten-minute Bill pressure—if I can call it that—coming from some of my hon. Friend's colleagues. I shall compare that code with the current one shortly.

The 1994 code contained useful information about leases but suffered from three major drawbacks. First, it did not require anyone to do anything, so it was a "warm words" version of a code of practice. Secondly, it was not an easy read for those unfamiliar with property jargon. I am sure that my hon. Friend has looked at it. It probably requires something between his excellent proficiency in English and his equal proficiency in Serbo-Croat to be understood; it was not in English. Thirdly, it disappeared without trace. Hardly anyone knew anything about it.

When the current Government came into power in 1997, we took over plans to review the code of practice, and commissioned the university of Reading to gauge the impact of the existing code. When it reported in 2000, the Reading commission confirmed that the code had had no impact whatever, but it found that the property market had undergone significant changes, which is an important point. It found that leases were much shorter. Small businesses in particular had benefited from the trend towards shorter leases. More leases had break clauses than was the case in the 1960s and 1970s, and more had other terms that were more favourable to tenants. However, upward-only rent review clauses were still prevalent in longer leases.

At the time, we considered immediately legislating against upward-only clauses but drew back because of the unintended repercussions of legislation, and particularly of intervening in what remains a very complex market. We acknowledge that in some circumstances upward-only clauses can be of mutual benefit to a landlord and tenant—for example, when they support a sale or leaseback deal. Instead, we prevailed upon the property industry to introduce a new voluntary code, and after some initial setbacks the property industry agreed a new code of practice, which was launched in April 2002.

In the press release to go with the launch, my predecessor, my hon. Friend the Member for Northampton, North (Ms Keeble), said:

That is the notion of flexibility. Self-regulation is not a soft option; I should be very disappointed if we had to resort to legislation after all. I therefore urge everyone, whether owners, occupiers or advisers, to familiarise themselves with the new code and to observe it in the spirit as well as in the letter.

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I am encouraged by the support for the new code and, in particular, the pledge by leading property suppliers to promote it actively. That pledge had, as my hon. Friend said, the support of the Royal Institution of Chartered Surveyors and several other bodies associated with the property industry. I do not need to mention all of them, but they included something called the Department for Transport, Local Government and the Regions—I am not entirely sure what that is—the Law Society, the Small Business Service, the British Property Federation, the British Retail Consortium, the Confederation of British Industry, the Forum of Private Business, the Federation of Small Businesses and the British chambers of commerce.

I am pleased that the new code has the support of all involved in commercial property—funders, owners, occupiers and the professional bodies. In the context of today's debate, I am especially pleased that the code has the support of small business organisations—in particular, the Small Business Bureau, the Federation of Small Businesses and the Forum of Private Business. I would be more than happy to consider the matter further with the Hillingdon and Harrow branch of the FSB, which covers my constituency and that of my hon. Friend. It says on my brief that the code also has the support of the Government, which is handy.

Why do we expect the new code to succeed when the previous one failed? First, unlike its predecessor, the new code sets out recommended action. It urges landlords to consider offering tenants, among other things, a choice in the length of term of their lease, and break clauses where appropriate. It recommends that the basis of rent review should generally be open market rent, so that upward or downward movements in the market can be reflected. It urges landlords, whenever possible, to offer alternatives to upward-only rent reviews, on a risk-adjusted basis. It urges funders, whenever possible, to avoid constraining landlords in the choices that they can offer tenants. Some commercial landlords will say that it is not in their gift to release lessees from upward-only rent reviews and that it is the funders behind them who insist on what happens. People made hay while the sun shone in the happy days for the property market in the 1960s, 1970s and 1980s and, before the introduction of this code, I imagine that they did not think of anything other than upward-only reviews.

Secondly, the code is short and in plain English; it is accessible to people without expertise in property. It is also accompanied by a leaflet warning first-time tenants of the pitfalls of property leasing. The leaflet strongly recommends that they should take professional advice. It is worth repeating my hon. Friend's point that the terms of the lease are secondary to securing the property, getting in and starting to trade. The terms of the lease may the last thing on a small trader's or small business person's mind.

Thirdly, the code is being widely disseminated and is easily accessible on the internet, from where it may be downloaded, and I am pleased to say that the website has scored more than 100,000 hits. The code has had recent publicity in the property press and has a high profile. Unlike its predecessor, it has not been shelved.

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By coincidence, or perhaps more than that, my first ministerial speaking engagement was to the property development faculty—I cannot remember its exact title, for which I apologise—of the Royal Institution of Chartered Surveyors, on precisely this subject. It was remiss of me when I scurried over to outside the Speaker's Office to check whether I had an Adjournment debate, as I always do on Wednesday mornings, not to catch that upward-only rental contracts came under my remit. They clearly do. When speaking to RICS, I said that we were loath to go down the legislative route, not least because of the regulatory burdens that my hon. Friend suggested. However, if we need to go down that route, we will.

We are being ever so slightly precipitate. The code was published in April, it has extensive support from a range of key players in the property industry and we need to give it time to bed in.

Mr. Randall : I am grateful for the Minister's contribution. I hope that this short debate will send out a message, loud and clear, that if people do not stick to the code, the Government will have to legislate.

Mr. McNulty : I share that sentiment and I am enormously grateful to be able to reiterate that message. I am at the penultimate paragraph of my brief, in which it says that the property industry knows that it is under notice to produce changes. The gestation period of the code was long but, after extensive consultation, some of which was fairly bloody, we got there, and people signed up to it. Therefore, to decide in October that a code that has been in place only since April needs to be torn up and the process started again is ever so slightly precipitate. We are not necessarily looking for the elimination of upward-only rent reviews, but we are keen to promote choice and to ensure that tenants are able to negotiate terms that suit their business needs. That element of flexibility is core to the code of practice.

It is perfectly proper to say that those who invest in, and secure their income from, property investment, whether funders or landlords, have the right to earn their money in an entirely appropriate and legitimate market. There must, however, be some flexibility in recognition that there may be small blips up and down in the economic cycle, or windfall-like elements, such as the regeneration of a town centre.

Purely as an aside, my hon. Friend will know that by the mid-1970s and early-1980s Uxbridge town centre was a complete and utter basket case and a good example of how not to redevelop a town centre. Happily, in recent visits to Uxbridge, I have seen that it is increasingly an example of how to build a community around a town centre that serves it well. I have not had the pleasure of going into Randall's of Uxbridge, nor have I bought anything there. That pleasure awaits me, but I am sure that I will get there at some stage during its next 110 years of trading.

We have, once again, asked the university of Reading to monitor the property market, this time over a two-year period ending in December 2004. The university has already assessed the benefits and the efficacy, or otherwise, of the 1994 code. It is revisiting that research and will consider how the present code, which has only been in place since April, beds in. The university will

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produce an interim report at the end of next year that will give us some indication of how much progress has been made. We are not just waiting until 2004. The property industry knows that we will consider legislative options if there are not clear signs of change by the end of 2004; I repeat that for its benefit as well as for my hon. Friend.

I congratulate my hon. Friend on his choice of topic and on the informed and gentlemanly way in which he put his case. I ask only that he bear with me. The industry knows that if the new code does not work we will—I repeat—consider the legislative options. If my hon. Friend was asking me to look further at the McDonald's case and that of pub landlords, those are notions that I will take with me. Once again, I say that toward the end of next year the university of Reading will report in full on the state of play regarding research in the market.

Finally, I am pleased to have had the opportunity to reiterate what I said about the strength of the new code of practice. We are keeping a watchful eye on that. When I said that to RICS at its conference in June—my first ministerial speaking engagement—there was an open ear and a will and desire to move forward. Perhaps it knows that if the code of practice is not successful, the legislative option stands behind it. Nevertheless, I think that there is a good deal of equanimity and support for the notion that, in terms of the commercial property world, things have moved on significantly compared with how they stood when upward-only rent reviews first became the norm. That being the case, it is, perhaps, in the interest of RICS to consider relevant matters seriously in terms of supply and demand, and the regulation and efficacy of the market.

I shall make one last facetious point. I am pleased that my hon. Friend did not abuse or insult me in any way. One occasion that we crossed swords in the Chamber was during the passage of the Greater London Authority Bill when we were discussing some obtuse Liberal Democrat amendment about what would be done if there were an electoral tie with an electorate of 5 million. I was waxing lyrical about whether one would toss a coin or draw lots and my hon. Friend asked me, entirely appropriately given the context, whether I was a tosser or a drawer. To this day, that remains one of the best interventions on me during my short career in the House, and I thank him for that. However, it is hard to respond to an intervention when one is laughing.

I welcome the opportunity to reiterate the points that I have already made about the code of practice. I congratulate my near neighbour once again on his informed delivery and I assure him that the university of Reading and the Office of the Deputy Prime Minister will watch over the implementation of the code of practice. I also say to the property industry that we will be back with legislative options at the end of 2004 if the code does not bed in properly.

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