Minimising property risks

Many GPs do not realise the full extent of the risks they face, when the practice takes on new premises, or renews an existing lease. The partners in the practice will be taking on any liability personally – not just through the practice – and they may not appreciate that the risks can be very long-term, and may outlive the practice’s NHS contract or even the building’s use as a GP surgery.

The basic problem

The real issue facing GPs is the mismatch between the length of lease a landlord will be looking to impose on its tenant, and the limited period in which the GP partnership will be guaranteed reimbursement of its outgoings under its NHS contract.

Under the usual funding arrangements, a GP practice will have a five-year contract with NHS England, during which the majority of its premises costs, including rent, will be reimbursed.

For an existing building, the landlord may want to impose a 10 or 15 year term but, for a newly-built surgery, the position is often worse. This is because the value of a new building generally reflects the rental income it can be expected to generate through lettings. It would usually take 20 to 30 years of rental income, at the level of rents that NHS England will permit, for a developer to recover the costs of development of a new GP surgery. Therefore, a developer will be looking to impose a 20 to 30-year lease on the GP tenant without any right to break.

The rent for most leases is subject to review every three or five years. This is normally ‘upwards-only’, which means that the rent can only go up and not down.

A worst case scenario would be for a GP partnership to take a surgery lease for, say, 20 years at an annual rent of £50,000 plus VAT, subject to upwards-only rent review, and then to find that its NHS contract expires after 5 years and is not renewed. Worse still, the contract might be terminated before the end of the 5 years, if the practice is in breach, or if the contract allows NHS England to terminate early by giving notice to the practice.

After the NHS contract comes to an end, the partners will no longer receive any income and the NHS reimbursement will cease, but the partners will still be liable for the premises costs for the remainder of the lease. In the scenario we have described, the partners would be personally liable for a further 15 years: £750,000 rent, plus service charge, insurance premium, dilapidations, (including any increases over that period) VAT, business rates and other costs.

What can you do?

Negotiating the heads of terms

Before the parties enter into a new lease, or renew an existing lease, they will usually negotiate the commercial deal – length of term, rent, and so forth – and the agreed points will then be set out in a quite short document, often referred to as “heads of terms”.

This is the best time for GPs to negotiate provisions which limit the risks we have described, before the partners have made any actual commitments. It is much harder to negotiate after heads of terms have been agreed.

At this negotiation stage, however, GPs can often find themselves trapped between the interests of a commercial landlord or developer and NHS England. As we have seen, a developer of a new surgery will generally want a long lease, in order to reimburse the development costs with interest, whereas NHS England will want to minimise premises risk as far as possible.

The aim for the GP partners will be to try to minimise their personal exposure, particularly in the event that their NHS contract is terminated or the partnership is dissolved.

Termination or expiry of your NHS contract

For as long as the premises are needed as a GP surgery then, under the current NHS financing model, the contract with NHS England will allow the GP partnership to recover the bulk of the premises overheads, including rent.

The problem for GPs is what happens if your premises cease to be needed as a surgery before the lease expires, particularly if this is because your NHS contract has come to an end.

The termination or expiry of your NHS contract will not usually bring your lease to an end, but it will mean the end of the rent reimbursement from NHS England. It is not uncommon in a business context for premises to cease to be required. In those circumstances the business will usually seek to assign their lease to a third party. However, GP surgeries are often not appropriately designed and situated for other commercial uses so they may have little value if not required as a surgery.

In the absence of a specific provision in the lease, the partners of the practice are each personally liable to pay the rent, service charge, insurance premium, business rates and all other lease costs and obligations, and to comply with the other covenants of the lease until it expires, even if they no longer need the premises as a surgery. This obligation could last for many years.

In order to address this issue, the GPs should try to negotiate, as a part of the heads of terms, a lease term which ties in with the length of their NHS contract or, if the lease will be for a longer period, to secure the right to terminate the lease – a so-called ‘break-clause’ – by notice to the landlord if the NHS contract comes to an end.

Commercial landlords will seek to resist break-clauses, because they need certainty that the lease will continue for the whole period, particularly if they need to recoup the costs of any development, but if your landlord is a local authority, they might be persuaded. It depends on the premises, bargaining strength and the overall project.

If no, or insufficient, break clauses can be agreed then the alternative is to try to agree a short-term lease.

This does carry the opposite risk that the lease might come to an end at a time when the GPs actually want to remain in the premises – for example if the NHS contract is renewed – but if the GPs can negotiate for the lease to be within the security of tenure provisions of the Landlord and Tenant Act 1954 then they will have the right to remain in the property when the term ends and call for the grant of a new lease. The landlord can only refuse in certain limited circumstances.

Either way, a lease with a break clause, or a short lease (combined with a right for the practice to renew), will limit the risk of having to pay for premises that they no longer need.

NHS England to take on the lease if the GP contract ends

NHS England will often ask for the right, but not the obligation, to take over the lease if the contract ends but that arrangement will only benefit NHS England. It is far better for the GP tenant if there is an obligation on NHS England to take over the lease.

Resist providing personal guarantees

Where the lease is granted to a limited company, the partners should resist giving personal guarantees. Personal guarantees will make the GPs personally liable if the company cannot pay, for example if the NHS contract comes to an end, but if the GPs can resist personal guarantees then only the tenant company will be liable for the lease costs. If things do go wrong, that could mean the end of the limited company but the GPs involved will avoid personal liability.

Retirement provisions

If the lease is granted directly to the partnership, ensure that the lease provides that, on retirement, each partner is released from his or her obligations under the lease.

Assignment

In usual circumstances where a business decides that it does not need its premises, it will assign the lease. Normally a lease will state that the landlord’s consent must be obtained before the lease is assigned, that is to say transferred, from the tenant to any other person but that the consent may not be unreasonably withheld.

However, as mentioned above, many surgeries are not well designed or located for an alternative commercial use. With a GP surgery, it may be difficult to find an alternative occupier at all, let alone one who is prepared to pay the level of rent needed. The fact that the premises are no longer needed as a surgery will not result in any reduction in the rent payable.

The question of assignment also arises where a partner retires or a new partner is brought in. Unless the lease makes specific provision for this, the partners and the retiring partners will have to apply to the landlord for consent to transfer the lease into the names of the remaining partners and any incoming partner.

It is sensible, therefore, to negotiate from the outset an entitlement to assign the lease on the retirement of a partner, so as to release that partner from liability under the lease without the need to get the landlord’s consent. Normally landlords will agree to this provided that the partners remaining on the lease retain the appropriate GP contract, and that the contract covers the cost of the premises.

A lease will often require that the retiring partner gives a guarantee (called an Authorised Guarantee Agreement) of the obligations of the continuing and any new partners. This means the retiring partner will continue to have a potential liability under the lease which continues after he or she has ceased to be a partner, and will be triggered if remaining partners fail to pay the rent or comply with the covenants under the lease. Again you should seek to negotiate provision for a retiring partner to be released from all liability when his or her name is removed from the lease.

If the retiring partner is not released, he or she may be able to obtain an indemnity from the continuing partners, to cover him or her against any payments which may be claimed by the landlord. However, this situation is not ideal, because he or she will still be in the firing line in the first instance. If the reason why the continuing partners have failed to perform their obligations under the lease is that they themselves do not have the money, then the indemnity will be of little value in practice.

Even if someone can be found to take over the lease, the assignment will incur costs and the outgoing tenant will usually be asked to guarantee the obligations of the incoming assignees. GPs should not rely on an assignee being found and should take steps before entering into their lease to limit premises risk.

As we have seen, the best solution, wherever possible, is to ensure that the partnership has the right to terminate the lease of the premises, if it ceases to need those premises to perform its NHS contract.

Location

It is also worth considering the location of the proposed surgery. If they are within the main commercial area of the community then, subject to planning, there is a reasonable chance that alternative uses can be found for the premises if they are no longer needed as a surgery. However it is prudent to ensure that the lease is sufficiently flexible to allow for change of use from medical to commercial.

At the design stage on any development, the developer (and any prospective GP tenant) should also ensure that the building itself is sufficiently flexible to allow alternative uses without the need for major structural alteration

Conclusion

In conclusion, it is vital for any GP practice that, before entering into any commitment on surgery premises, the partners understand the nature, extent and likely duration of the risks they will be taking on. It is therefore essential to obtain the right legal advice at the outset, preferably before heads of terms are agreed.

Peter Coats
Partner
T. 020 7227 7441
E. peter.coats@rlb-law.com

© RadcliffesLeBrasseur
March 2015


Disclaimer

This briefing is for guidance purposes only. RadcliffesLeBrasseur accepts no responsibility or liability whatsoever for any action taken or not taken in relation to this note and recommends that appropriate legal advice be taken having regard to a client's own particular circumstances.

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